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As filed with the Securities and Exchange Commission on March 6, 2012
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
1933 Act File No. 333-162592
Form N-2
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
| PRE-EFFECTIVE AMENDMENT NO. | ¨ | |||
| POST-EFFECTIVE AMENDMENT NO. 6 | x |
GLADSTONE CAPITAL CORPORATION
(Exact name of registrant as specified in charter)
1521 WESTBRANCH DRIVE, SUITE 200
MCLEAN, VA 22102
(Address of principal executive offices)
Registrant’s telephone number, including area code: (703) 287-5800
DAVID GLADSTONE
CHAIRMAN AND CHIEF EXECUTIVE OFFICER
GLADSTONE CAPITAL CORPORATION
1521 WESTBRANCH DRIVE, SUITE 200
MCLEAN, VIRGINIA 22102
(Name and address of agent for service)
COPIES TO:
THOMAS R. SALLEY
DARREN K. DESTEFANO
COOLEY LLP
ONE FREEDOM SQUARE
RESTON TOWN CENTER
11951 FREEDOM DRIVE
RESTON, VIRGINIA 20190
(703) 456-8000
(703) 456-8100 (facsimile)
Approximate date of proposed public offering: From time to time after the effective date of this registration statement.
If any securities being registered on this form will be offered on a delayed or continuous basis in reliance on Rule 415 under the Securities Act of 1933, as amended, other than securities offered in connection with a dividend reinvestment plan, check the following box. x
The Registrant hereby amends this Registration Statement on such date or dates as may be necessary to delay its effective date until the Registrant shall file a further amendment which specifically states that this Registration Statement shall thereafter become effective in accordance with Section 8(a) of the Securities Act of 1933, as amended, or until this Registration Statement shall become effective on such date as the Commission, acting pursuant to Section 8(a), may determine.
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The information in this prospectus is not complete and may be changed. We may not sell these securities until the registration statement filed with the Securities and Exchange Commission is effective. This prospectus is not an offer to sell these securities and is not soliciting an offer to buy these securities in any state where the offer or sale is not permitted.
SUBJECT TO COMPLETION, DATED March 6, 2012
PROSPECTUS
$300,000,000
COMMON STOCK
PREFERRED STOCK
SUBSCRIPTION RIGHTS
WARRANTS
DEBT SECURITIES
We may offer, from time to time, up to $300,000,000 aggregate initial offering price of our common stock, $0.001 par value per share, preferred stock, $0.001 par value per share, subscription rights, warrants representing rights to purchase shares of our common stock, or debt securities, or a combined offering of these securities, which we refer to in this prospectus collectively as our Securities, in one or more offerings. The Securities may be offered at prices and on terms to be disclosed in one or more supplements to this prospectus. In the case of our common stock and warrants or rights to acquire such common stock hereunder, the offering price per share of our common stock by us, less any underwriting commissions or discounts, will not be less than the net asset value per share of our common stock at the time of the offering except (i) in connection with a rights offering to our existing common stockholders, (ii) with the consent of the holders of the majority of our outstanding stock, or (iii) under such other circumstances as the Securities and Exchange Commission may permit. You should read this prospectus and the applicable prospectus supplement carefully before you invest in our Securities.
Our Securities may be offered directly to one or more purchasers, including existing stockholders in a rights offering, through agents designated from time to time by us, or to or through underwriters or dealers. The prospectus supplement relating to the offering will identify any agents or underwriters involved in the sale of our Securities, and will disclose any applicable purchase price, fee, commission or discount arrangement between us and our agents or underwriters or among our underwriters or the basis upon which such amount may be calculated. See “Plan of Distribution.” We may not sell any of our Securities through agents, underwriters or dealers without delivery of a prospectus supplement describing the method and terms of the offering of such Securities. Our common stock is traded on The NASDAQ Global Select Market under the symbol “GLAD.” As of March 5, 2012, the last reported sales price for our common stock was $8.50. Our 7.125% Series 2016 Term Preferred Stock is traded on The New York Stock Exchange under the symbol “GLADPRA.” As of March 5, 2012, the last reported sales price for our 7.125% Series 2016 Term Preferred Stock was $26.00.
This prospectus contains information you should know before investing, including information about risks. Please read it before you invest and keep it for future reference. Additional information about us, including our annual, quarterly and current reports, has been filed with the Securities and Exchange Commission. This information is available free of charge on our corporate website located at www.gladstonecapital.com. See “Additional Information.” This prospectus may not be used to consummate sales of securities unless accompanied by a prospectus supplement.
An investment in our Securities involves certain risks, including, among other things, risks relating to investments in securities of small, private and developing businesses. We describe some of these risks in the section entitled “Risk Factors,” which begins on page 8. Common shares of closed-end investment companies frequently trade at a discount to their net asset value and this may increase the risk of loss to purchasers of our Securities. You should carefully consider these risks together with all of the other information contained in this prospectus and any prospectus supplement before making a decision to purchase our Securities.
The Securities being offered have not been approved or disapproved by the Securities and Exchange Commission or any state securities commission nor has the Securities and Exchange Commission or any state securities commission passed upon the accuracy or adequacy of this prospectus. Any representation to the contrary is a criminal offense.
, 2012
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| Management’s Discussion and Analysis of Financial Condition and Results of Operations |
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| Certain Provisions of Maryland Law and of Our Articles of Incorporation and Bylaws |
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| F-1 |
We have not authorized any dealer, salesman or other person to give any information or to make any representation other than those contained or incorporated by reference in this prospectus or any accompanying supplement to this prospectus. You must not rely upon any information or representation not contained or incorporated by reference in this prospectus or the accompanying prospectus supplement as if we had authorized it. This prospectus and any prospectus supplement do not constitute an offer to sell or a solicitation of any offer to buy any security other than the registered securities to which they relate, nor do they constitute an offer to sell or a solicitation of an offer to buy any securities in any jurisdiction to any person to whom it is unlawful to make such an offer or solicitation in such jurisdiction. The information contained in this prospectus and any prospectus supplement is accurate as of the dates on their respective covers only. Our business, financial condition, results of operations and prospects may have changed since such dates.
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The following summary contains basic information about this offering. It likely does not contain all the information that is important to an investor. For a more complete understanding of this offering, we encourage you to read this entire document and the documents to which we have referred. Except where the context suggests otherwise, the terms “we,” “us,” “our,” the “Company” and “Gladstone Capital” refer to Gladstone Capital Corporation; “Adviser” refers to Gladstone Management Corporation; “Administrator” refers to Gladstone Administration, LLC; “Gladstone Commercial” refers to Gladstone Commercial Corporation; “Gladstone Investment” refers to Gladstone Investment Corporation; “Gladstone Land” refers to Gladstone Land Corporation; “Gladstone Securities” refers to Gladstone Securities, LLC; and “Gladstone Companies” refers to our Adviser and its affiliated companies.
GLADSTONE CAPITAL CORPORATION
General
We were incorporated under the General Corporation Laws of the State of Maryland on May 30, 2001 and completed our initial public offering on August 24, 2001. We operate as a closed-end, non-diversified management investment company and we have elected to be treated as a business development company (“BDC”) under the Investment Company Act of 1940, as amended (the “1940 Act”). For federal income tax purposes, we have elected to be treated as a regulated investment company (“RIC”) under Subchapter M of the Internal Revenue Code of 1986, as amended (the “Code”). We currently continue to qualify as a RIC for federal income tax purposes and obtain favorable RIC tax treatment by meeting certain requirements, including certain minimum distribution requirements.
We seek to invest in small and medium-sized private United States (“U.S.”) businesses that meet certain criteria, including some but not necessarily all of the following: the potential for growth in cash flow, adequate assets for loan collateral, experienced management teams with a significant ownership interest in the borrower, profitable operations based on the borrower’s cash flow, reasonable capitalization of the borrower (usually by leveraged buyout funds or venture capital funds) and the potential to realize appreciation and gain liquidity in our equity positions, if any. We anticipate that liquidity in our equity position will be achieved through a merger or acquisition of the borrower, a public offering of the borrower’s stock or by exercising our right to require the borrower to repurchase our warrants. However, there can be no assurance that we will always have these rights. We lend to borrowers that need funds to finance growth, restructure their balance sheets or effect a change of control. We invest either by ourselves or jointly with other funds or management of the borrower, depending on the opportunity. If we are participating in an investment with one or more co-investors, our investment is likely to be smaller than if we were to investing alone. Our loans typically range from $5 million to $20 million and generally mature in no more than seven years.
Because the majority of the loans in our portfolio consist of term debt of private U.S. companies that typically cannot or will not expend the resources to have their debt securities rated by a credit rating agency, we expect that most, if not all, of the debt securities we acquire will be unrated. Investors should assume that these loans would be at rates below what is today considered “investment grade” quality. Investments rated below investment grade are often referred to as high yield securities or junk bonds and may be considered high risk as compared to investment-grade debt instruments.
Our Investment Strategy
We were established to achieve a high level of current income by investing in debt securities, consisting primarily of senior notes and senior subordinated notes, of established private U.S. businesses that are substantially owned by leveraged buyout funds, individual investors or are family-owned businesses, with a
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particular focus on senior notes. In addition, we may acquire from others existing loans that meet this profile. We also seek to provide our stockholders with long-term capital growth through appreciation in the value of warrants or other equity instruments that we may receive when we make loans.
We expect that our target portfolio over time will primarily include the following three categories of investments in private U.S. companies:
| • | Senior Loans: We seek to invest a portion of our assets in senior notes of borrowers. Using its assets as collateral, the borrower typically uses senior notes to cover a substantial portion of the funding needed to operate. The collateral usually takes the form of first priority liens on the assets of the portfolio company. Senior lenders are exposed to the least risk of all providers of debt because they command a senior position with respect to scheduled interest and principal payments and assets of the borrower. However, unlike senior subordinated lenders, these senior lenders typically do not receive any stock, warrants to purchase stock of the borrowers or other yield enhancements. As such, they generally do not participate in the equity appreciation of the value of the business. Senior notes may include revolving lines of credit, senior term loans, senior syndicated loans and senior last-out tranche loans and generally are at variable interest rates in relation to the London Interbank Offered Rate (“LIBOR”). These loans typically are structured with interest rate floors to protect against declining interest rates. |
| • | Senior Subordinated Loans: We seek to invest a portion of our assets in senior subordinated notes, which include second lien notes. Holders of senior subordinated notes, which are typically unsecured, are subordinated to the rights of holders of senior debt in their right to receive principal and interest payments or, in the case of last out tranches of senior debt, liquidation proceeds from the borrower. As a result, senior subordinated notes are riskier than senior notes. Although such loans are sometimes secured by significant collateral (assets of the borrower), the lender is largely dependent on the borrower’s cash flow for repayment. Additionally, lenders may receive warrants to acquire shares of stock in borrowers or other yield enhancements in connection with these loans. Senior subordinated notes include second lien loans and syndicated second lien loans. We typically structure these senior subordinated loans with variable interest rates in relation to the LIBOR with interest rate floors to protect against declining interest rates. |
| • | Junior Subordinated Loans: We also seek to invest a small portion of our assets in junior subordinated notes, which include mezzanine notes. Holders of junior subordinated notes are subordinated to the rights of the holders of senior debt and senior subordinated debt in their rights to receive principal and interest payments from the borrower and the assets of the borrower. The risk profile of junior subordinated notes is high, which permits the junior subordinated lender to obtain higher variable interest rates and more equity and equity-like compensation. |
| • | Preferred and Common Equity/Equivalents: While not a primary focus of our investment strategy, from time to time we also receive yield enhancements in connection with some of our loans, which include warrants to purchase stock or success fees. A portion of our portfolio consists of equity investments that were part of a larger initial investment in a private company. Additionally, we also have equity investments derived from restructurings on some of our investments. |
Our Investment Adviser and Administrator
Gladstone Management Corporation (our “Adviser”) is our affiliate, investment adviser, and a privately-held company led by a management team which has extensive experience in our lines of business. Our Adviser’s affiliate, a privately-held company, Gladstone Administration, LLC (our “Administrator”), employs our chief financial officer, chief compliance officer, internal legal counsel and their respective staffs. Excluding our chief financial officer, all of our executive officers serve as directors or executive officers, or both, of the following of our affiliates: Gladstone Commercial Corporation (“Gladstone Commercial”), a publicly-traded real estate investment trust; Gladstone Investment Corporation (“Gladstone Investment”), a publicly-traded BDC and RIC; our Adviser; and our Administrator.
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Our Adviser and Administrator also provide investment advisory and administrative services, respectively, to our affiliates, including Gladstone Commercial; Gladstone Investment; Gladstone Securities, LLC (“Gladstone Securities”), a privately-held broker-dealer registered with the Financial Industry Regulatory Authority (“FINRA”) and insured by the Securities Investor Protection Corporation; Gladstone Partners Fund, L.P., a private partnership fund formed primarily to co-invest with us and Gladstone Investment; Gladstone Land Corporation, a private agricultural real estate company owned by David Gladstone, our chairman and chief executive officer; and Gladstone Lending Corporation (“Gladstone Lending”), a private corporation that was formed to primarily invest in first and second lien term loans that has filed a registration statement on Form N-2 with the Securities and Exchange Commission (the “SEC”), but which has not yet commenced operations. Our Adviser and Administrator may provide investment advisory and administrative services, respectively, to other funds and companies, both public and private. Our chief executive officer also serves on the board of managers of Gladstone Securities.
We have been externally managed by our Adviser pursuant to an investment advisory agreement since October 1, 2004. Our Adviser was organized as a corporation under the laws of the State of Delaware on July 2, 2002, and is a registered investment adviser under the Investment Advisers Act of 1940, as amended. Our Adviser is headquartered in McLean, Virginia, a suburb of Washington, D.C., and also has offices in several other states.
THE OFFERING
We may offer, from time to time, up to $300,000,000 of our Securities, on terms to be determined at the time of the offering. Our Securities may be offered at prices and on terms to be disclosed in one or more prospectus supplements. In the case of an offering of our common stock and warrants or rights to acquire such common stock hereunder in any offering, the offering price per share, less any underwriting commissions or discounts, will not be less than the net asset value per share of our common stock at the time of the offering except (i) in connection with a rights offering to our existing stockholders, (ii) with the consent of the majority of our common stockholders, or (iii) under such other circumstances as the Securities and Exchange Commission (“SEC”) may permit. If we were to sell shares of our common stock below our then current net asset value per share, such sales would result in an immediate dilution to the net asset value per share. This dilution would occur as a result of the sale of shares at a price below the then current net asset value per share of our common stock and a proportionately greater decrease in a stockholder’s interest in our earnings and assets and voting interest in us than the increase in our assets resulting from such issuance.
Our Securities may be offered directly to one or more purchasers, including existing stockholders in a rights offering, by us or through agents designated from time to time by us, or to or through underwriters or dealers. The prospectus supplement relating to the offering will disclose the terms of the offering, including the name or names of any agents or underwriters involved in the sale of our Securities by us, the purchase price, and any fee, commission or discount arrangement between us and our agents or underwriters or among our underwriters or the basis upon which such amount may be calculated. See “Plan of Distribution.” We may not sell any of our Securities through agents, underwriters or dealers without delivery of a prospectus supplement describing the method and terms of the offering of our Securities.
Set forth below is additional information regarding the offering of our Securities:
| Common Stock Trading Symbol (The NASDAQ Global Select Market) | GLAD | |
| 7.125% Series 2016 Term Preferred Stock Trading Symbol (The New York Stock Exchange) | GLADPRA | |
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| Use of Proceeds | Unless otherwise specified in a prospectus supplement, we intend to use the net proceeds from the sale of our Securities first to pay down existing short-term debt, then to make investments in small and mid-sized companies in accordance with our investment objective, with any remaining proceeds to be used for other general corporate purposes. See “Use of Proceeds.” | |
| Dividends and Distributions | We have paid monthly distributions to the holders of our common stock since October 2003 (and prior to that quarterly distributions since January 2002) and generally intend to continue to do so. We made our first distribution on our term preferred stock in December of 2011 and have made monthly distributions thereafter. The amount of monthly distributions on our common stock is determined by our Board of Directors on a quarterly basis and is based on our estimate of our annual investment company taxable income and net short-term taxable capital gains, if any. See “Price Range of Common Stock and Distributions.” Certain additional amounts may be deemed as distributed to stockholders for income tax purposes. Other types of securities we might offer will likely pay distributions in accordance with their terms. | |
| Taxation | We intend to continue to elect to be treated for federal income tax purposes as a RIC. So long as we continue to qualify, we generally will pay no corporate-level federal income taxes on any ordinary income or capital gains that we distribute to our stockholders. To maintain our RIC status, we must meet specified source-of-income and asset diversification requirements and distribute annually at least 90% of our taxable ordinary income and realized net short-term capital gains in excess of realized net long-term capital losses, if any, out of assets legally available for distribution. See “Material U.S. Federal Income Tax Considerations.” | |
| Trading at a Discount | Common shares of closed-end investment companies frequently trade at a discount to their net asset value. The possibility that our common shares may trade at a discount to our net asset value is separate and distinct from the risk that our net asset value per common share may decline. We cannot predict whether our common shares will trade above, at or below net asset value, although during the past three years, our common stock has often traded, and at times significantly, below net asset value. | |
| Certain Anti-Takeover Provisions | Our Board of Directors is divided into three classes of directors serving staggered three-year terms. This structure is intended to provide us with a greater likelihood of continuity of management, which may be necessary for us to realize the full value of our investments. A staggered board of directors also may serve to deter hostile takeovers or proxy contests, as may certain provisions of Maryland law and other measures we have adopted. See “Certain Provisions of Maryland Law and of Our Articles of Incorporation and Bylaws.” | |
| Dividend Reinvestment Plan | We have a dividend reinvestment plan for our common stockholders. This is an “opt in” dividend reinvestment plan, meaning that stockholders may elect to have their cash dividends | |
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| automatically reinvested in additional shares of our common stock. Stockholders who do not so elect will receive their dividends in cash. Stockholders who receive distributions in the form of stock will be subject to the same federal, state and local tax consequences as stockholders who elect to receive their distributions in cash. See “Dividend Reinvestment Plan.” | ||
| Management Arrangements | Gladstone Management Corporation serves as our investment adviser, and Gladstone Administration, LLC serves as our administrator. For a description of our Adviser, our Administrator, the Gladstone Companies and our contractual arrangements with these companies, see “Management — Certain Transactions — Investment Advisory and Management Agreement,” “Management — Certain Transactions — Administration Agreement” and “Management — Certain Transactions — Loan Servicing Agreement.” | |
FEES AND EXPENSES
The following table is intended to assist you in understanding the costs and expenses that an investor in this offering will bear directly or indirectly. We caution you that some of the percentages indicated in the table below are estimates and may vary. Except where the context suggests otherwise, whenever this prospectus contains a reference to fees or expenses paid by “us” or “Gladstone Capital,” or that “we” will pay fees or expenses, stockholders will indirectly bear such fees or expenses as investors in Gladstone Capital. The following annualized percentages were calculated based on actual expenses incurred in the quarter ended December 31, 2011 and average net assets for the quarter ended December 31, 2011.
| Stockholder Transaction Expenses: |
||||
| Sales load (as a percentage of offering price) |
— | % | ||
| Dividend reinvestment plan expenses(1) |
None | |||
| Annual expenses (as a percentage of net assets attributable to common stock: |
||||
| Management fees(2) |
2.95 | % | ||
| Incentive fees payable under investment advisory and management agreement (20% of realized capital gains and 20% of pre-incentive fee net investment income)(3) |
0.49 | % | ||
| Interest payments on borrowed funds(4) |
2.90 | % | ||
| Dividend expense on mandatorily redeemable preferred stock (5) |
0.95 | % | ||
| Other expenses(6) |
1.30 | % | ||
| Total annual expenses(2)(3)(6) |
8.59 | % | ||
| (1) | The expenses of the reinvestment plan are included in stock record expenses, a component of “other expenses.” We do not have a cash purchase plan. The participants in the dividend reinvestment plan will bear a pro rata share of brokerage commissions incurred with respect to open market purchases, if any. See “Dividend Reinvestment Plan” for information on the dividend reinvestment plan. |
| (2) | Our annual base management fee is 2.0% (0.5% quarterly) of our average gross assets, which are defined as total assets of Gladstone Capital, including investments made with proceeds of borrowings, less any uninvested cash or cash equivalents resulting from borrowings. For the three months ended December 31, 2011, our Adviser voluntarily agreed to waive the annual base management fee of 2.0% to 0.5% for those senior syndicated loan participations that we purchase using borrowings from our credit facility. Although there can be no guarantee that our Adviser will continue to waive any portion of the fees due under the Advisory Agreement, on an annual basis after giving effect to this waiver and the waiver of a portion of the incentive fees as described in footnote 3 below, the estimated management fees as a percentage of net assets |
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| attributable to common stock were 2.71% and the total estimated annual expenses as a percentage of net assets attributable to common stock were 8.35%. See “Management — Certain Transactions — Investment Advisory and Management Agreement.” |
| (3) | The incentive fee consists of two parts: an income-based fee and a capital gains-based fee. The income-based fee is payable quarterly in arrears, and equals 20.0% of the excess, if any, of our pre-incentive fee net investment income that exceeds a 1.75% quarterly (7.0% annualized) hurdle rate of our net assets, subject to a “catch-up” provision measured as of the end of each calendar quarter. The “catch-up” provision requires us to pay 100% of our pre-incentive fee net investment income with respect to that portion of such income, if any, that exceeds the hurdle rate but is less than 125.0% of the quarterly hurdle rate (or 2.1875%) in any calendar quarter (8.75% annualized). The catch-up provision is meant to provide our Adviser with 20.0% of our pre-incentive fee net investment income as if a hurdle rate did not apply when our pre-incentive fee net investment income exceeds 125.0% of the quarterly hurdle rate in any calendar quarter (8.75% annualized). The income-based incentive fee is computed and paid on income that may include interest that is accrued but not yet received in cash. Our pre-incentive fee net investment income used to calculate this part of the income-based incentive fee is also included in the amount of our gross assets used to calculate the 2.0% base management fee (see footnote 2 above). The capital gains-based incentive fee equals 20.0% of our net realized capital gains since our inception, if any, computed net of all realized capital losses and unrealized capital depreciation since our inception, less any prior payments, and is payable at the end of each fiscal year. We have not recorded any capital gains-based incentive fee from our inception through December 31, 2011. |
For the three months ended December 31, 2011, our Adviser voluntarily agreed to waive a portion of the incentive fees to the extent net investment income did not cover 100% of the distributions to common stockholders during this period. Although there can be no guarantee that our Adviser will continue to waive any portion of the fees under the Advisory Agreement, on an annual basis after giving effect to this waiver and the waiver of a portion of the base management fee as described in footnote 2 above, the estimated incentive fees as a percentage of net assets attributable to common stock were 0.36% and the total estimated annual expenses as a percentage of net assets attributable to common stock were 8.46%. See “Management — Certain Transactions — Investment Advisory and Management Agreement.”
Examples of how the incentive fee would be calculated are as follows:
| • | Assuming pre-incentive fee net investment income of 0.55%, there would be no income-based incentive fee because such income would not exceed the hurdle rate of 1.75%. |
| • | Assuming pre-incentive fee net investment income of 2.00%, the income-based incentive fee would be as follows: |
= 100% × (2.00% - 1.75%)
= 0.25%
| • | Assuming pre-incentive fee net investment income of 2.30%, the income-based incentive fee would be as follows: |
= (100% × (“catch-up”: 2.1875% - 1.75%)) + (20% × (2.30% - 2.1875%))
= (100% × 0.4375%) + (20% × 0.1125%)
= 0.4375% + 0.0225%
= 0.46%
| • | Assuming net realized capital gains of 6% and realized capital losses and unrealized capital depreciation of 1%, the capital gains-based incentive fee would be as follows: |
= 20% × (6% - 1%)
= 20% × 5%
= 1%
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For a more detailed discussion of the calculation of the two-part incentive fee, see “Management — Certain Transactions — Investment Advisory and Management Agreement.”
| (4) | Includes deferred financing costs. We renewed our revolving credit facility for a three year period, effective January 19, 2012, under which our borrowing capacity is $137.0 million. We have drawn down on this credit facility and we expect to borrow additional funds in the future up to an amount so that our asset coverage, as defined in the 1940 Act, is at least 200% after each issuance of our senior securities. Assuming that we borrowed $137.0 million at an interest rate of 5.25% plus an additional fee related to borrowings of 1.14%, for an aggregate rate of 6.39%, interest payments and amortization of deferred financing costs on borrowed funds would have been 4.15% of our average net assets for the quarter ended December 31, 2011. |
| (5) | In November 2011, we completed a public offering of 7.125% Series 2016 Term Preferred Stock, par value $0.001 per share, at a public offering price of $25.00 per share. In the offering, we issued approximately 1.5 million shares of 7.125% Series 2016 Term Preferred Stock. Dividend expense includes the amounts paid to preferred stockholders during the three months ended December 31, 2011 for the portion of the quarter during which the shares were outstanding. Also included in this line item is the amortization of the offering costs related to our term preferred stock offering. In addition, See “Management Discussion and Analysis of Financial Condition and Results of Operations – Liquidity and Capital Resources – Series 2016 Term Preferred Stock” for additional information. |
| (6) | Includes our overhead expenses, including payments under the administration agreement based on our projected allocable portion of overhead and other expenses incurred by our Administrator in performing its obligations under the administration agreement. See “Management — Certain Transactions — Administration Agreement.” |
Example
The following example demonstrates the projected dollar amount of total cumulative expenses that would be incurred over various periods with respect to a hypothetical investment in our Securities. In calculating the following expense amounts, we have assumed that our annual operating expenses would remain at the levels set forth in the table above. In the event that securities to which this prospectus related are sold to or through underwriters, a corresponding prospectus supplement will restate this example to reflect the applicable sales load.
| 1 Year | 3 Years | 5 Years | 10 Years | |||||||||||||
| You would pay the following expenses on a $1,000 investment, assuming a 5% annual return |
$ | 90 | $ | 260 | $ | 416 | $ | 755 | ||||||||
While the example assumes, as required by the SEC, a 5% annual return, our performance will vary and may result in a return greater or less than 5%. Additionally, we have assumed that the entire amount of such 5% annual return would constitute ordinary income as we have not historically realized positive capital gains (computed net of all realized capital losses) on our investments. Because the assumed 5% annual return is significantly below the hurdle rate of 7% (annualized) that we must achieve under the investment advisory and management agreement to trigger the payment of an income-based incentive fee, we have assumed, for purposes of the above example, that no income-based incentive fee would be payable if we realized a 5% annual return on our investments. Additionally, because the capital gains-based incentive fee is calculated on a cumulative basis (computed net of all realized capital losses and unrealized capital depreciation) and because of the significant capital losses realized to date, we have assumed that we will not trigger the payment of any capital gains-based incentive fee in any of the indicated time periods. If we achieve sufficient returns on our investments, including through the realization of capital gains, to trigger an incentive fee of a material amount, our expenses, and returns to our investors after such expenses, would be higher than reflected in the example. The expenses you would pay, based on a $1,000 investment and assuming a 5% annual return resulting entirely from net realized capital gains (disregarding for purposes of this example all net historical realized losses and aggregate unrealized depreciation)
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(and therefore subject to the capital gains-based incentive fee), and otherwise making the same assumptions in the example above, would be: 1 year, $99; 3 years, $283; 5 years, $450; and 10 years, $799. In addition, while the example assumes reinvestment of all dividends and distributions at net asset value, participants in our dividend reinvestment plan will receive a number of shares of our common stock, determined by dividing the total dollar amount of the dividend payable to a participant by the market price per share of our common stock at the close of trading on the valuation date for the dividend. See “Dividend Reinvestment Plan” for additional information regarding our dividend reinvestment plan.
This example and the expenses in the table above should not be considered a representation of our future expenses, and actual expenses (including the cost of debt, incentive fees, if any, and other expenses) may be greater or less than those shown.
We have filed with the SEC a registration statement on Form N-2 under the Securities Act of 1933, as amended, which we refer to as the Securities Act, with respect to the Securities offered by this prospectus. This prospectus, which is a part of the registration statement, does not contain all of the information set forth in the registration statement or exhibits and schedules thereto. For further information with respect to our business and our Securities, reference is made to the registration statement, including the amendments, exhibits and schedules thereto.
We also file reports, proxy statements and other information with the SEC under the Securities Exchange Act of 1934, as amended, which we refer to as the Exchange Act. Such reports, proxy statements and other information, as well as the registration statement and the amendments, exhibits and schedules thereto, can be inspected at the public reference facilities maintained by the SEC at 100 F Street, N.E., Washington, D.C. 20549. Information about the operation of the public reference facilities may be obtained by calling the SEC at 1-800-SEC-0330. The SEC maintains a website that contains reports, proxy statements and other information regarding registrants, including us, that file such information electronically with the SEC. The address of the SEC’s website is http://www.sec.gov. Copies of such material may also be obtained from the Public Reference Section of the SEC at 100 F Street, N.E., Washington, D.C. 20549, at prescribed rates. Our common stock is listed on The NASDAQ Global Select Market and our corporate website is located at www.gladstonecapital.com. The information contained on, or accessible through, our website is not a part of this prospectus.
We make available free of charge on our website our annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and all amendments to those reports as soon as reasonably practicable after such material is electronically filed with or furnished to the SEC.
We also furnish to our stockholders annual reports, which include annual financial information that has been examined and reported on, with an opinion expressed, by our independent registered public accounting firm. See “Experts.”
You should carefully consider the risks described below and all other information provided and incorporated by reference in this prospectus (or any prospectus supplement) before making a decision to purchase our Securities. The risks and uncertainties described below are not the only ones facing us. Additional risks and uncertainties not presently known to us, or not presently deemed material by us, may also impair our operations and performance. If any of the following risks actually occur, our business, financial condition or results of operations could be materially adversely affected. If that happens, the trading price of our Securities could decline, and you may lose all or part of your investment.
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Risks Related to the Economy
The current state of the economy and the capital markets increases the possibility of adverse effects on our financial position and results of operations. Continued economic adversity could impair our portfolio companies’ financial positions and operating results and affect the industries in which we invest, which could, in turn, harm our operating results. Continued adversity in the capital markets could impact our ability to raise capital and reduce our volume of new investments.
We believe that the U.S. is continuing to recover from the recession that largely began in late 2007. While economic conditions generally appear to be improving, we remain cautious about a long-term economic recovery. The recession in general, and the disruptions in the capital markets in particular, have impacted our liquidity options and increased the cost of debt and equity capital. As a result, we do not know if adverse conditions will again intensify, and we are unable to gauge the full extent to which the disruptions will continue to affect us. The longer these uncertain conditions persist, the greater the probability that these factors could continue to increase our costs of, and significantly limit our access to, debt and equity capital and, thus, have an adverse effect on our operations and financial results. Many of our portfolio companies and the companies we may invest in the future are also susceptible to these unstable economic conditions, which may affect the ability of one or more of our portfolio companies to repay our loans or engage in a liquidity event, such as a sale, recapitalization or initial public offering. These unstable economic conditions could also disproportionately impact some of the industries in which we invest, causing us to be more vulnerable to losses in our portfolio, which could cause the number of non-performing assets to increase and the fair value of our portfolio to decrease. The unstable economic conditions may also decrease the value of collateral securing some of our loans as well as the value of our equity investments which would decrease our ability to borrow under our line of credit or raise equity capital, thereby further reducing our ability to make new investments.
In November 2011, we completed an offering of 1.5 million shares of 7.125% Series 2016 Term Preferred Stock (the “Series 2016 Term Preferred Stock”); however, there can be no assurance that we will be able to raise additional equity capital in the near future. See “Management Discussion and Analysis of Financial Condition and Results of Operations – Liquidity and Capital Resources – Series 2016 Term Preferred Stock” for additional information.
The unstable economic conditions have affected the availability of credit generally. We do not know when market conditions will stabilize, if adverse conditions will intensify or the full extent to which the disruptions will continue to affect us. Also, it is possible that persistent instability of the financial markets could have other unforeseen material effects on our business.
The recent downgrade of the United States credit rating and the ongoing economic crisis in Europe could negatively impact our liquidity, financial condition and earnings.
Recent U.S. debt ceiling and budget deficit concerns, together with signs of deteriorating sovereign debt conditions in Europe, have increased the possibility of additional credit-rating downgrades and economic slowdowns. Although U.S. lawmakers passed legislation to raise the federal debt ceiling, Standard & Poor’s Ratings Services lowered its long-term sovereign credit rating on the U.S. from “AAA” to “AA+” in August 2011. The impact of this or any further downgrades to the U.S. government’s sovereign credit rating, or its perceived creditworthiness, and the impact of the current crisis in Europe with respect to the ability of certain European Union countries to continue to service their sovereign debt obligations is inherently unpredictable and could adversely affect the U.S. and global financial markets and economic conditions. There can be no assurance that governmental or other measures to aid economic recovery will be effective. These fairly recent developments, and the government’s credit concerns in general, could cause interest rates and borrowing costs to rise, which may negatively impact our ability to access the debt markets on favorable terms. In addition, the decreased credit rating could create broader financial turmoil and uncertainty, which may weigh heavily on our stock price. Continued adverse economic conditions could have a material adverse effect on our business, financial condition and results of operations.
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We may experience fluctuations in our quarterly and annual results based on the impact of inflation in the United States.
The majority of our portfolio companies are in industries that are directly impacted by inflation, such as consumer goods and services and manufacturing. Our portfolio companies may not be able to pass on to customers increases in their costs of operations which could greatly affect their operating results, impacting their ability to repay our loans. In addition, any projected future decreases in our portfolio companies’ operating results due to inflation could adversely impact the fair value of those investments. Any decreases in the fair value of our investments could result in future unrealized losses and therefore reduce our net assets resulting from operations.
Risks Related to Our External Management
We are dependent upon our key management personnel and the key management personnel of our Adviser, particularly David Gladstone, George Stelljes III and Terry Lee Brubaker, and on the continued operations of our Adviser, for our future success.
We have no employees. Our chief executive officer, president and chief investment officer, chief operating officer, chief financial officer, and the employees of our Adviser, do not spend all of their time managing our activities and our investment portfolio. We are particularly dependent upon David Gladstone, George Stelljes III and Terry Lee Brubaker in this regard. Our executive officers and the employees of our Adviser allocate some, and in some cases, a material portion, of their time to businesses and activities that are not related to our business. We have no separate facilities and are completely reliant on our Adviser, which has significant discretion as to the implementation and execution of our business strategies and risk management practices. We are subject to the risk of discontinuation of our Adviser’s operations or termination of the Advisory Agreement and the risk that, upon such event, no suitable replacement will be found. We believe that our success depends to a significant extent upon our Adviser and that discontinuation of its operations could have a material adverse effect on our ability to achieve our investment objectives.
Our incentive fee may induce our Adviser to make certain investments, including speculative investments.
The management compensation structure that has been implemented under the Advisory Agreement may cause our Adviser to invest in high-risk investments or take other risks. In addition to its management fee, our Adviser is entitled under the Advisory Agreement to receive incentive compensation based in part upon our achievement of specified levels of income. In evaluating investments and other management strategies, the opportunity to earn incentive compensation based on net income may lead our Adviser to place undue emphasis on the maximization of net income at the expense of other criteria, such as preservation of capital, maintaining sufficient liquidity, or management of credit risk or market risk, in order to achieve higher incentive compensation. Investments with higher yield potential are generally riskier or more speculative. This could result in increased risk to the value of our investment portfolio.
We may be obligated to pay our Adviser incentive compensation even if we incur a loss.
The Advisory Agreement entitles our Adviser to incentive compensation for each fiscal quarter in an amount equal to a percentage of the excess of our investment income for that quarter (before deducting incentive compensation, net operating losses and certain other items) above a threshold return for that quarter. When calculating our incentive compensation, our pre-incentive fee net investment income excludes realized and unrealized capital losses that we may incur in the fiscal quarter, even if such capital losses result in a net loss on our statement of operations for that quarter. Thus, we may be required to pay our Adviser incentive compensation for a fiscal quarter even if there is a decline in the value of our portfolio or we incur a net loss for that quarter. For additional information on incentive compensation under the Advisory Agreement with our Adviser, see “Business — Investment Advisory and Management Agreements — Management services and fees under the Advisory Agreement.”
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Our Adviser’s failure to identify and invest in securities that meet our investment criteria or perform its responsibilities under the Advisory Agreement may adversely affect our ability for future growth.
Our ability to achieve our investment objectives will depend on our ability to grow, which in turn will depend on our Adviser’s ability to identify and invest in securities that meet our investment criteria. Accomplishing this result on a cost-effective basis will be largely a function of our Adviser’s structuring of the investment process, its ability to provide competent and efficient services to us, and our access to financing on acceptable terms. The senior management team of our Adviser has substantial responsibilities under the Advisory Agreement. In order to grow, our Adviser will need to hire, train, supervise, and manage new employees successfully. Any failure to manage our future growth effectively could have a material adverse effect on our business, financial condition, and results of operations.
There are significant potential conflicts of interest which could impact our investment returns.
Our executive officers and directors, and the officers and directors of our Adviser, serve or may serve as officers, directors, or principals of entities that operate in the same or a related line of business as we do or of investment funds managed by our affiliates. Accordingly, they may have obligations to investors in those entities, the fulfillment of which might not be in the best interests of us or our stockholders. For example, Mr. Gladstone, our chairman and chief executive officer, is the chairman of the board and chief executive officer of our Adviser, Gladstone Investment and Gladstone Commercial and the sole stockholder of Gladstone Land. In addition, Mr. Brubaker, our vice chairman, chief operating officer and secretary is the vice chairman, chief operating officer and secretary of our Adviser, Gladstone Investment and Gladstone Commercial. Mr. Stelljes, our president and chief investment officer, is also the president and chief investment officer of our Adviser and Gladstone Commercial and vice chairman and chief investment officer of Gladstone Investment. Moreover, our Adviser may establish or sponsor other investment vehicles which from time to time may have potentially overlapping investment objectives with those of ours and accordingly may invest in, whether principally or secondarily, asset classes similar to those we target. While our Adviser generally has broad authority to make investments on behalf of the investment vehicles that it advises, our Adviser has adopted investment allocation procedures to address these potential conflicts and intends to direct investment opportunities to the Gladstone affiliate with the investment strategy that most closely fits the investment opportunity. Nevertheless, the management of our Adviser may face conflicts in the allocation of investment opportunities to other entities managed by our Adviser. As a result, it is possible that we may not be given the opportunity to participate in certain investments made by other members of the Gladstone Companies or investment funds managed by investment managers affiliated with our Adviser.
In certain circumstances, we may make investments in a portfolio company in which one of our affiliates has or will have an investment, subject to satisfaction of any regulatory restrictions and, where required, to the prior approval of our Board of Directors. Our Board of Directors has approved the following types of co-investment transactions:
| • | Our affiliate, Gladstone Commercial, may lease property to portfolio companies that we do not control under certain circumstances. We may pursue such transactions only if (i) the portfolio company is not controlled by us or any of our affiliates, (ii) the portfolio company satisfies the tenant underwriting criteria of Gladstone Commercial, and (iii) the transaction is approved by a majority of our independent directors and a majority of the independent directors of Gladstone Commercial. We expect that any such negotiations between Gladstone Commercial and our portfolio companies would result in lease terms consistent with the terms that the portfolio companies would be likely to receive were they not portfolio companies of ours. |
| • | We may invest simultaneously with our affiliate Gladstone Investment in senior syndicated loans whereby neither we nor any affiliate has the ability to dictate the terms of the loans. |
| • | Additionally, pursuant to an exemptive order granted by the SEC, our Adviser may sponsor a private investment fund to co-invest with us or Gladstone Investment in accordance with the terms and conditions of the order. |
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Certain of our officers, who are also officers of our Adviser, may from time to time serve as directors of certain of our portfolio companies. If an officer serves in such capacity with one of our portfolio companies, such officer will owe fiduciary duties to all stockholders of the portfolio company, which duties may from time to time conflict with the interests of our stockholders.
In the course of our investing activities, we will pay management and incentive fees to our Adviser and will reimburse our Administrator for certain expenses it incurs. As a result, investors in our common stock will invest on a “gross” basis and receive distributions on a “net” basis after expenses, resulting in, among other things, a lower rate of return than one might achieve through our investors themselves making direct investments. As a result of this arrangement, there may be times when the management team of our Adviser has interests that differ from those of our stockholders, giving rise to a conflict. In addition, as a BDC, we make available significant managerial assistance to our portfolio companies and provide other services to such portfolio companies. Although, neither we nor our Adviser currently receives fees in connection with managerial assistance, our Adviser and Gladstone Securities have, at various times, provided other services to certain of our portfolio companies and received fees for these other services. For example, during the year ended September 30, 2011, certain of our portfolio companies contracted directly with our Adviser for the provision of various consulting services and with Gladstone Securities for the provision of investment banking and due diligence services, in each case, in return for fees.
Our Adviser is not obligated to provide a waiver of the base management fee, which could negatively impact our earnings and our ability to maintain our current level of distributions to our common stockholders.
The Advisory Agreement provides for a base management fee based on our gross assets. Since our 2007 fiscal year, our Board of Directors has accepted on a quarterly basis voluntary, unconditional and irrevocable waivers to reduce the annual 2.0% base management fee on senior syndicated loan participations to 0.5% to the extent that proceeds resulting from borrowings were used to purchase such syndicated loan participations, and any waived fees may not be recouped by our Adviser in the future. However, our Adviser is not required to issue these or other waivers of fees under the Advisory Agreement, and to the extent our investment portfolio grows in the future, we expect these fees will increase. If our Adviser does not issue these waivers in future quarters, it could negatively impact our earnings and may compromise our ability to maintain our current level of distributions to our common stockholders, which could have a material adverse impact on the price of our common stock.
Our business model is dependent upon developing and sustaining strong referral relationships with investment bankers, business brokers and other intermediaries.
We are dependent upon informal relationships with investment bankers, business brokers and traditional lending institutions to provide us with deal flow. If we fail to maintain our relationship with such funds or institutions, or if we fail to establish strong referral relationships with other funds, we will not be able to grow our portfolio of loans and fully execute our business plan.
Risks Related to Our External Financing
In addition to regulatory limitations on our ability to raise capital, our credit facility contains various covenants which, if not complied with, could accelerate our repayment obligations under the facility, thereby materially and adversely affecting our liquidity, financial condition, results of operations and ability to pay distributions.
In January 2012, we renewed our fourth amended and restated credit agreement, which provides for a $137.0 million revolving line of credit arranged by Key Equipment Finance Inc. (“Keybank”) as administrative agent (the “Credit Facility”). Branch Banking and Trust Company (“BB&T”) and ING Capital LLC (“ING”) are also committed lenders under the Credit Facility. Subject to certain terms and conditions, the Credit Facility may
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be expanded up to $237.0 million through the addition of other committed lenders to the facility. However, if additional lenders are unwilling to join the facility on its terms, we will be unable to expand the facility and thus will continue to have limited availability to finance new investments under our line of credit. The Credit Facility matures on January 18, 2015, and, if the facility is not renewed or extended by this date, all principal and interest will be due and payable on January 18, 2016. As of March 5, 2012, we had $51.8 million of borrowing capacity remaining under the Credit Facility.
We will have a continuing need for capital to finance our loans. The Credit Facility permits us to fund additional loans and investments as long as we are within the conditions set forth in the credit agreement. Pursuant to the terms of the Credit Facility, we are subject to certain limitations on the type of loan investments we make, including restrictions on geographic concentrations, sector concentrations, loan size, dividend payout, payment frequency and status, average life and lien property. The credit agreement also requires us to comply with other financial and operational covenants, which require us to, among other things, maintain certain financial ratios, including asset and interest coverage and a minimum net worth and a minimum number of obligors required in the borrowing base of the credit agreement. As of December 31, 2011, we were in compliance with these covenants; however, our continued compliance depends on many factors, some of which are beyond our control. Current market conditions have forced us to write down the value of a portion of our assets, as required by the 1940 Act and fair value accounting rules. These are not realized losses, but constitute adjustment in asset values for purposes of financial reporting and for collateral value for the Credit Facility. As assets are marked down in value, the amount we can borrow on the Credit Facility decreases. As of December 31, 2011, our net assets were $208.0 million, down from $213.7 million as of September 30, 2011, primarily a result of net losses on investments of $6.0 million ($8.2 million in net realized losses and $2.2 million of net unrealized appreciation) during the quarter ended December 31, 2011. As of December 31, 2011, the cumulative net unrealized depreciation on our investments was $77.6 million, compared to cumulative net unrealized depreciation of $79.9 million as of September 30, 2011.
The minimum net worth covenant contained in the Credit Facility requires our net assets to be at least $190.0 million plus 50.0% of all equity and subordinated debt raised after January 19, 2012. Given the continued uncertainty in the capital markets, the cumulative unrealized depreciation in our portfolio may increase in future periods and threaten our ability to comply with the minimum net worth covenant and other covenants under the Credit Facility. Under the Credit Facility, we are also required to maintain our status as a BDC under the 1940 Act and as a RIC under the Code. There are no assurances that we will continue to comply with these covenants. Our failure to satisfy these covenants could result in foreclosure by our lenders, which would accelerate our repayment obligations under the facility and thereby have a material adverse effect on our business, liquidity, financial condition, results of operations and ability to pay distributions to our stockholders.
In recent years, creditors have significantly curtailed their lending to BDCs, including us. Any inability to renew, extend or replace our line of credit on terms favorable to us, or at all, could adversely impact our liquidity and ability to fund new investments or maintain distributions to our stockholders.
As described earlier, we extended our Credit Facility for a three year period in January 2012, so that it will terminate on January 18, 2015 and if the facility is not renewed or extended by such date, all principal and interest will be due and payable on January 18, 2016, one year after the date of maturity. During the fiscal year ended September 30, 2011, outstanding borrowings under the Credit Facility increased significantly from $16.8 million to $99.4 million. We were able to pay down a portion of the outstanding borrowings under the Credit Facility with the net proceeds from our offering of Series 2016 Term Preferred Stock in November 2011, leaving a balance of $56.9 million as of December 31, 2011. If additional lenders are unwilling to join the facility on its terms, we will be unable to expand our Credit Facility and thus will have limited availability to finance new investments under our line of credit.
There can be no guarantee that we will be able to renew, extend or replace the Credit Facility on terms that are favorable to us, or at all. Our ability to obtain replacement financing will be constrained by current economic conditions affecting the credit markets. Consequently, any renewal, extension or refinancing of the Credit
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Facility will potentially result in significantly higher interest rates and related charges and may impose significant restrictions on the use of borrowed funds with regard to our ability to fund investments or maintain distributions to our stockholders. If we are unable to secure replacement financing, we may be forced to sell certain assets on disadvantageous terms, which may result in realized losses, and such realized losses could materially exceed the amount of any unrealized depreciation on these assets as of our most recent balance sheet date, which would have a material adverse effect on our results of operations. Such circumstances would also increase the likelihood that we would be required to redeem some or all of our outstanding Series 2016 Term Preferred Stock, which would potentially require us to sell even more assets. In addition to selling assets, or as an alternative, we may issue equity to repay amounts outstanding under the line of credit. Based on the recent trading prices of our common stock, such an equity offering may have a substantial dilutive impact on our existing common stockholders’ interest in our earnings and assets and voting interest in us.
Our business plan is dependent upon external financing, which is constrained by the limitations of the 1940 Act.
Our business requires a substantial amount of cash to operate and grow. We may acquire such additional capital from the following sources:
| • | Senior Securities. We may issue debt securities, other evidences of indebtedness (including borrowings under our line of credit) and possibly senior common stock and preferred stock, up to the maximum amount permitted by the 1940 Act. The 1940 Act currently permits us, as a BDC, to issue debt securities, senior common stock and other senior securities (such as our recently issued Series 2016 Term Preferred Stock), which we refer to collectively as senior securities, in amounts such that our asset coverage, as defined in the 1940 Act, is at least 200% after each issuance of senior securities. As a result of issuing senior securities, we will be exposed to the risks associated with leverage. Although borrowing money for investments increases the potential for gain, it also increases the risk of a loss. A decrease in the value of our investments will have a greater impact on the value of our common stock to the extent that we have borrowed money to make investments. There is a possibility that the costs of borrowing could exceed the income we receive on the investments we make with such borrowed funds. In addition, our ability to pay distributions or incur additional indebtedness would be restricted if asset coverage is not at least twice our indebtedness. If the value of our assets declines, we might be unable to satisfy that test. If this happens, we may be required to liquidate a portion of our loan portfolio and repay a portion of our indebtedness at a time when a sale, to the extent possible given the limited market for many of our investments, may be disadvantageous. Furthermore, any amounts that we use to service our indebtedness will not be available for distributions to our stockholders. The 1940 Act prohibits the issuance of multiple classes of senior securities that are stock. As a result, we would be prohibited from issuing senior common stock to the extent that such a security was deemed to be a separate class of stock from our recently issued Series 2016 Term Preferred Stock. |
| • | Common and Convertible Preferred Stock. Because we are constrained in our ability to issue debt for the reasons given above, we are dependent on the issuance of equity as a financing source. If we raise additional funds by issuing more common stock or senior securities convertible into or exchangeable for our common stock, the percentage ownership of our common stockholders at the time of the issuance would decrease and our common stock may experience dilution. In addition, any convertible or exchangeable securities that we issue in the future may have rights, preferences and privileges more favorable than those of our common stock. In addition, under the 1940 Act, we will generally not be able to issue additional shares of our common stock at a price below net asset value per share to purchasers, other than to our existing common stockholders through a rights offering, without first obtaining the approval of our common stockholders and our independent directors. If we were to sell shares of our common stock below our then current net asset value per share, such sales would result in an immediate dilution to the net asset value per share. This dilution would occur as a result of the sale of shares at a price below the then current net asset value per share of our common stock and a proportionately greater decrease in a common stockholder’s interest in our earnings and assets and voting interest in us than the increase in our assets resulting from such issuance. For example, if we issue and sell an additional 10% of our common stock at a 5% discount from net asset value, |
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| a common stockholder who does not participate in that offering for its proportionate interest will suffer net asset value dilution of up to 0.5% or $5 per $1,000 of net asset value. This imposes constraints on our ability to raise capital when our common stock is trading at below net asset value, as it has for the last year. As noted previously, the 1940 Act prohibits the issuance of multiple classes of senior securities that are stock. As a result, we would be prohibited from issuing convertible preferred stock to the extent that such a security was deemed to be a separate class of stock from our recently issued Series 2016 Term Preferred Stock. |
We finance our investments with borrowed money and senior securities, which will magnify the potential for gain or loss on amounts invested and may increase the risk of investing in us.
The following table illustrates the effect of leverage on returns from an investment in our common stock assuming various annual returns on our portfolio, net of expenses. The calculations in the table below are hypothetical, and actual returns may be higher or lower than those appearing in the table below.
| Assumed Return on Our Portfolio (Net of Expenses) |
||||||||||||||||||||
| (10 | )% | (5 | )% | 0 | % | 5 | % | 10 | % | |||||||||||
| Corresponding return to common stockholder(1) |
(16.6 | )% | (9.2 | )% | (1.8 | )% | 5.6 | % | 13.0 | % | ||||||||||
| (1) | The hypothetical return to common stockholders is calculated by multiplying our total assets as of December 31, 2011 by the assumed rates of return and subtracting all interest accrued on our debt for the quarter ended December 31, 2011, adjusted for the dividends on our preferred stock (as if our 2016 Series Term Preferred Stock had been outstanding for the entire quarter ended December 31, 2011); and then dividing the resulting difference by our total assets attributable to common stock. Based on $308.1 million in total assets, $57.2 million in debt, $38.5 million in aggregate liquidation preference of preferred stock, and $208.0 million in net assets, each as of December 31, 2011. |
Based on an outstanding indebtedness of $57.2 million as of December 31, 2011and the effective annual interest rate of 6.4% as of that date, and aggregate liquidation prefrence of our 2016 Series Term Preferred Stock of $38.5 million, our investment portfolio at fair value would have been required to experience an annual return of at least 2.1% to cover annual interest payments on the outstanding debt and dividends on the Series 2016 Term Preferred Stock.
A change in interest rates may adversely affect our profitability.
We anticipate using a combination of equity and long-term and short-term borrowings to finance our investment activities. As a result, a portion of our income will depend upon the difference between the rate at which we borrow funds and the rate at which we loan these funds. Higher interest rates on our borrowings will decrease the overall return on our portfolio.
Ultimately, we expect approximately 90% of the loans in our portfolio to be at variable rates determined on the basis of the LIBOR and approximately 10% to be at fixed rates. As of December 31, 2011, our portfolio had approximately 87.2% of the total loan cost value at variable rates with floors, approximately 6.5% of the total of the loan cost value at variable rates without a floor or ceiling and approximately 6.3% of the total loan portfolio cost basis at fixed rates.
Risks Related to Our Investments
We operate in a highly competitive market for investment opportunities.
A large number of entities compete with us and make the types of investments that we seek to make in small and mid-sized companies. We compete with public and private buyout funds, commercial and investment banks, commercial financing companies, and, to the extent they provide an alternative form of financing, hedge funds.
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Many of our competitors are substantially larger and have considerably greater financial, technical and marketing resources than we do. For example, some competitors may have a lower cost of funds and access to funding sources that are not available to us. In addition, some of our competitors may have higher risk tolerances or different risk assessments, which would allow them to consider a wider variety of investments and establish more relationships than us. Furthermore, many of our competitors are not subject to the regulatory restrictions that the 1940 Act imposes on us as a BDC. The competitive pressures we face could have a material adverse effect on our business, financial condition and results of operations. Also, as a result of this competition, we may not be able to take advantage of attractive investment opportunities from time to time and we can offer no assurance that we will be able to identify and make investments that are consistent with our investment objective. We do not seek to compete based on the interest rates we offer, and we believe that some of our competitors may make loans with interest rates that will be comparable to or lower than the rates we offer. We may lose investment opportunities if we do not match our competitors’ pricing, terms, and structure. However, if we match our competitors’ pricing, terms, and structure, we may experience decreased net interest income and increased risk of credit loss.
Our investments in small and medium-sized portfolio companies are extremely risky and could cause you to lose all or a part of your investment.
Investments in small and medium-sized portfolio companies are subject to a number of significant risks including the following:
| • | Small and medium-sized businesses are likely to have greater exposure to economic downturns than larger businesses. Our portfolio companies may have fewer resources than larger businesses, and thus the recent recession, and any further economic downturns or recessions, are more likely to have a material adverse effect on them. If one of our portfolio companies is adversely impacted by a recession, its ability to repay our loan or engage in a liquidity event, such as a sale, recapitalization or initial public offering would be diminished. |
| • | Small and medium-sized businesses may have limited financial resources and may not be able to repay the loans we make to them. Our strategy includes providing financing to portfolio companies that typically is not readily available to them. While we believe that this provides an attractive opportunity for us to generate profits, this may make it difficult for the portfolio companies to repay their loans to us upon maturity. A borrower’s ability to repay its loan may be adversely affected by numerous factors, including the failure to meet its business plan, a downturn in its industry, or negative economic conditions. Deterioration in a borrower’s financial condition and prospects usually will be accompanied by a deterioration in the value of any collateral and a reduction in the likelihood of us realizing on any guaranties we may have obtained from the borrower’s management. As of December 31, 2011, six investments were on non-accrual with an aggregate fair value of approximately $28.8 million, or 8.0% of the cost basis of all debt investments in our portfolio. While we are working with the portfolio companies to improve their profitability and cash flows, there can be no assurance that our efforts will prove successful. Although we will sometimes seek to be the senior, secured lender to a borrower, in most of our loans we expect to be subordinated to a senior lender, and our interest in any collateral would, accordingly, likely be subordinate to another lender’s security interest. |
| • | Small and medium-sized businesses typically have narrower product lines and smaller market shares than large businesses. Because our target portfolio companies are smaller businesses, they will tend to be more vulnerable to competitors’ actions and market conditions, as well as general economic downturns. In addition, our portfolio companies may face intense competition, including competition from companies with greater financial resources, more extensive development, manufacturing, marketing, and other capabilities and a larger number of qualified managerial, and technical personnel. |
| • | There is generally little or no publicly available information about these businesses. Because we seek to invest in privately owned businesses, there is generally little or no publicly available operating and financial information about our potential portfolio companies. As a result, we rely on our officers, our Adviser, and its employees and consultants to perform due diligence investigations of these portfolio companies, their operations, and their prospects. We may not learn all of the material information we need to know regarding these businesses through our investigations. |
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| • | Small and medium-sized businesses generally have less predictable operating results. We expect that our portfolio companies may have significant variations in their operating results, may from time to time be parties to litigation, may be engaged in rapidly changing businesses with products subject to a substantial risk of obsolescence, may require substantial additional capital to support their operations, to finance expansion or to maintain their competitive position, may otherwise have a weak financial position, or may be adversely affected by changes in the business cycle. Our portfolio companies may not meet net income, cash flow, and other coverage tests typically imposed by their senior lenders. A borrower’s failure to satisfy financial or operating covenants imposed by senior lenders could lead to defaults and, potentially, foreclosure on its senior credit facility, which could additionally trigger cross-defaults in other agreements. If this were to occur, it is possible that the borrower’s ability to repay our loan would be jeopardized. |
| • | Small and medium-sized businesses are more likely to be dependent on one or two persons. Typically, the success of a small or medium-sized business also depends on the management talents and efforts of one or two persons or a small group of persons. The death, disability, or resignation of one or more of these persons could have a material adverse impact on our borrower and, in turn, on us. |
| • | Small and medium-sized businesses may have limited operating histories. While we intend to target stable companies with proven track records, we may make loans to new companies that meet our other investment criteria. Portfolio companies with limited operating histories will be exposed to all of the operating risks that new businesses face and may be particularly susceptible to, among other risks, market downturns, competitive pressures and the departure of key executive officers. |
Because the loans we make and equity securities we receive when we make loans are not publicly-traded, there is uncertainty regarding the value of our privately held securities that could adversely affect our determination of our net asset value.
Our portfolio investments are, and we expect will continue to be, in the form of securities that are not publicly-traded. The fair value of securities and other investments that are not publicly-traded may not be readily determinable. Our Board of Directors has established an investment valuation policy and consistently applied valuation procedures used to determine the fair value of these securities quarterly. These procedures for the determination of value of many of our debt securities rely on the opinions of value submitted to us by Standard & Poor’s Securities Evaluations, Inc. (“SPSE”) or the use of internally developed discounted cash flow (“DCF”) methodologies or indicative bid prices (“IBP”) offered by the respective originating syndication agent’s trading desk, or secondary desk, specifically for our syndicated loans, or internal methodologies based on the total enterprise value (“TEV”) of the issuer used for certain of our equity investments. SPSE will only evaluate the debt portion of our investments for which we specifically request evaluation, and SPSE may decline to make requested evaluations for any reason in its sole discretion. However, to date, SPSE has accepted each of our requests for evaluation.
Our use of these fair value methods is inherently subjective and is based on estimates and assumptions of each security. In the event that we are required to sell a security, we may ultimately sell for an amount materially less than the estimated fair value calculated by SPSE, or utilizing the TEV, IBP or the DCF methodology.
Our procedures also include provisions whereby our Adviser will establish the fair value of any equity securities we may hold where SPSE or third-party agent banks are unable to provide evaluations. The types of factors that may be considered in determining the fair value of our debt and equity securities include some or all of the following:
| • | the nature and realizable value of any collateral; |
| • | the portfolio company’s earnings and cash flows and its ability to make payments on its obligations; |
| • | the markets in which the portfolio company does business; |
| • | the comparison to publicly-traded companies; and |
| • | discounted cash flow and other relevant factors. |
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Because such valuations, particularly valuations of private securities and private companies, are not susceptible to precise determination, may fluctuate over short periods of time, and may be based on estimates, our determinations of fair value may differ from the values that might have actually resulted had a readily available market for these securities been available.
A portion of our assets are, and will continue to be, comprised of equity securities that are valued based on internal assessment using our own valuation methods approved by our Board of Directors, without the input of SPSE or any other third-party evaluator. We believe that our equity valuation methods reflect those regularly used as standards by other professionals in our industry who value equity securities. However, determination of fair value for securities that are not publicly-traded, whether or not we use the recommendations of an independent third-party evaluator, necessarily involves the exercise of subjective judgment. Our net asset value could be adversely affected if our determinations regarding the fair value of our investments were materially higher than the values that we ultimately realize upon the disposal of such securities.
The lack of liquidity of our privately held investments may adversely affect our business.
We will generally make investments in private companies whose securities are not traded in any public market. Substantially all of the investments we presently hold and the investments we expect to acquire in the future are, and will be, subject to legal and other restrictions on resale and will otherwise be less liquid than publicly-traded securities. The illiquidity of our investments may make it difficult for us to quickly obtain cash equal to the value at which we record our investments if the need arises. This could cause us to miss important investment opportunities. In addition, if we are required to liquidate all or a portion of our portfolio quickly, we may record substantial realized losses upon liquidation. We may also face other restrictions on our ability to liquidate an investment in a portfolio company to the extent that we, our Adviser, or our respective officers, employees or affiliates have material non-public information regarding such portfolio company.
Due to the uncertainty inherent in valuing these securities, our determinations of fair value may differ materially from the values that could be obtained if a ready market for these securities existed. Our net asset value could be materially affected if our determinations regarding the fair value of our investments are materially different from the values that we ultimately realize upon our disposal of such securities.
Our financial results could be negatively affected if a significant portfolio investment fails to perform as expected.
Our total investment in companies may be significant individually or in the aggregate. As a result, if a significant investment in one or more companies fails to perform as expected, our financial results could be more negatively affected and the magnitude of the loss could be more significant than if we had made smaller investments in more companies.
When we are a debt or minority equity investor in a portfolio company, which we expect will generally be the case, we may not be in a position to control the entity, and its management may make decisions that could decrease the value of our investment.
We anticipate that most of our investments will continue to be either debt or minority equity investments in our portfolio companies. Therefore, we are and will remain subject to risk that a portfolio company may make business decisions with which we disagree, and the shareholders and management of such company may take risks or otherwise act in ways that do not serve our best interests. As a result, a portfolio company may make decisions that could decrease the value of our portfolio holdings.
In addition, we will generally not be in a position to control any portfolio company by investing in its debt securities. This is particularly true when we invest in syndicated loans, which are loans made by a larger group of investors whose investment objectives of the other lenders may not be completely aligned with ours. During the
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year ended September 30, 2011, we significantly increased the number of our syndicated loan investments, and therefore we have become increasingly subject to the risk that other lenders in these investments may make decisions that could decrease the value of our portfolio holdings.
Our portfolio companies may incur debt that ranks equally with, or senior to, our investments in such companies.
We invest primarily in debt securities issued by our portfolio companies. In some cases portfolio companies will be permitted to have other debt that ranks equally with, or senior to, the debt securities in which we invest. By their terms, such debt instruments may provide that the holders thereof are entitled to receive payment of interest and principal on or before the dates on which we are entitled to receive payments in respect of the debt securities in which we invest. Also, in the event of insolvency, liquidation, dissolution, reorganization, or bankruptcy of a portfolio company, holders of debt instruments ranking senior to our investment in that portfolio company would typically be entitled to receive payment in full before we receive any distribution in respect of our investment. After repaying such senior creditors, such portfolio company may not have any remaining assets to use for repaying its obligation to us. In the case of debt ranking equally with debt securities in which we invest, we would have to share on an equal basis any distributions with other creditors holding such debt in the event of an insolvency, liquidation, dissolution, reorganization, or bankruptcy of a portfolio company.
Prepayments of our investments by our portfolio companies could adversely impact our results of operations and reduce our return on equity.
In addition to risks associated with delays in investing our capital, we are also subject to the risk that investments that we make in our portfolio companies may be repaid prior to maturity. For the year ended September 30, 2011, we received principal payments prior to maturity of $17.5 million. For the three months ended December 31, 2011, we received principal payments prior to maturity of $6.1million. We will first use any proceeds from prepayments to repay any borrowings outstanding on the Credit Facility. In the event that funds remain after repayment of our outstanding borrowings, then we will generally reinvest these proceeds in government securities, pending their future investment in new debt and/or equity securities. These government securities will typically have substantially lower yields than the debt securities being prepaid and we could experience significant delays in reinvesting these amounts. As a result, our results of operations could be materially adversely affected if one or more of our portfolio companies elect to prepay amounts owed to us. Additionally, prepayments could negatively impact our return on equity, which could result in a decline in the market price of our common stock.
Higher taxation of our portfolio companies may impact our quarterly and annual operating results.
The recession’s adverse effect on federal, state, and municipality revenues may induce these government entities to raise various taxes to make up for lost revenues. Additional taxation may have an adverse affect on our portfolio companies’ earnings and reduce their ability to repay our loans to them, thus affecting our quarterly and annual operating results.
Our portfolio is concentrated in a limited number of companies and industries, which subjects us to an increased risk of significant loss if any one of these companies does not repay us or if the industries experience downturns.
As of December 31, 2011 we had investments in 57 portfolio companies, of which there were five investments that comprised approximately $93.2 million or 31.8% of our total investment portfolio, at fair value. A consequence of a concentration in a limited number of investments is that the aggregate returns we realize may be substantially adversely affected by the unfavorable performance of a small number of such investments or a substantial write-down of any one investment. Beyond our regulatory and income tax diversification requirements, we do not have fixed guidelines for industry concentration and our investments could potentially be concentrated in relatively few industries. In addition, while we do not intend to invest 25.0% or more of our
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total assets in a particular industry or group of industries at the time of investment, it is possible that as the values of our portfolio companies change, one industry or a group of industries may comprise in excess of 25.0% of the value of our total assets. As a result, a downturn in an industry in which we have invested a significant portion of our total assets could have a materially adverse effect on us. As of December 31, 2011, 15.6% of our total assets at fair value were invested in electronics companies, 11.8% were invested in mining, steel, iron and non-precious metal companies, and 11.7% were invested in healthcare, education and childcare companies. As a result, we are susceptible to the economic circumstances in these industries, and a downturn in one or more of these industries could have a material adverse effect on our results of operations and financial condition.
Our investments are typically long term and will require several years to realize liquidation events.
Since we generally make five to seven year term loans and hold our loans and related warrants or other equity positions until the loans mature, you should not expect realization events, if any, to occur over the near term. In addition, we expect that any warrants or other equity positions that we receive when we make loans may require several years to appreciate in value and we cannot give any assurance that such appreciation will occur.
The disposition of our investments may result in contingent liabilities.
Currently, all of our investments involve private securities. In connection with the disposition of an investment in private securities, we may be required to make representations about the business and financial affairs of the underlying portfolio company typical of those made in connection with the sale of a business. We may also be required to indemnify the purchasers of such investment to the extent that any such representations turn out to be inaccurate or with respect to certain potential liabilities. These arrangements may result in contingent liabilities that ultimately yield funding obligations that must be satisfied through our return of certain distributions previously made to us.
There may be circumstances where our debt investments could be subordinated to claims of other creditors or we could be subject to lender liability claims.
Even though we have structured some of our investments as senior loans, if one of our portfolio companies were to go bankrupt, depending on the facts and circumstances, including the extent to which we actually provided managerial assistance to that portfolio company, a bankruptcy court might re-characterize our debt investments and subordinate all, or a portion, of our claims to that of other creditors. Holders of debt instruments ranking senior to our investments typically would be entitled to receive payment in full before we receive any distributions. After repaying such senior creditors, such portfolio company may not have any remaining assets to use to repay its obligation to us. We may also be subject to lender liability claims for actions taken by us with respect to a borrower’s business or in instances in which we exercised control over the borrower. It is possible that we could become subject to a lender’s liability claim, including as a result of actions taken in rendering significant managerial assistance.
Portfolio company litigation could result in additional costs and the diversion of management time and resources.
In the course of providing significant managerial assistance to certain of our portfolio companies, our executive officers sometimes serve as directors on the boards of such companies. To the extent that litigation arises out of our investments in these companies, such executive officers may be named as defendants in such litigation, which could result in additional costs and the diversion of management time and resources.
We may not realize gains from our equity investments and other yield enhancements.
When we make a subordinated loan, we may receive warrants to purchase stock issued by the borrower or other yield enhancements, such as success fees. Our goal is to ultimately dispose of these equity interests and realize gains upon our disposition of such interests. We expect that, over time, the gains we realize on these warrants and other yield enhancements will offset any losses we experience on loan defaults. However, any
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warrants we receive may not appreciate in value and, in fact, may decline in value and any other yield enhancements, such as success fees, may not be realized. Accordingly, we may not be able to realize gains from our equity interests or other yield enhancements and any gains we do recognize may not be sufficient to offset losses we experience on our loan portfolio.
Any unrealized depreciation we experience on our investment portfolio may be an indication of future realized losses, which could reduce our income available for distribution.
As a BDC, we are required to carry our investments at market value or, if no market value is ascertainable, at fair value as determined in good faith by or under the direction of our Board of Directors. Decreases in the market values or fair values of our investments will be recorded as unrealized depreciation. Since our inception, we have, at times, incurred a cumulative net unrealized depreciation of our portfolio. Any unrealized depreciation in our investment portfolio could result in realized losses in the future and ultimately in reductions of our income available for distribution to stockholders in future periods.
Risks Related to Our Regulation and Structure
We will be subject to corporate-level tax if we are unable to satisfy Code requirements for RIC qualification.
To maintain our qualification as a RIC, we must meet income source, asset diversification, and annual distribution requirements. The annual distribution requirement is satisfied if we distribute at least 90% of our ordinary income and short-term capital gains to our stockholders on an annual basis. Because we use leverage, we are subject to certain asset coverage ratio requirements under the 1940 Act and could, under certain circumstances, be restricted from making distributions necessary to qualify as a RIC. Warrants we receive with respect to debt investments will create “original issue discount,” which we must recognize as ordinary income, increasing the amounts we are required to distribute to maintain RIC status. Because such warrants will not produce distributable cash for us at the same time as we are required to make distributions in respect of the related original issue discount, we will need to use cash from other sources to satisfy such distribution requirements. The asset diversification requirements must be met at the end of each calendar quarter. If we fail to meet these tests, we may need to quickly dispose of certain investments to prevent the loss of RIC status. Since most of our investments will be illiquid, such dispositions, if even possible, may not be made at prices advantageous to us and, in fact, may result in substantial losses. If we fail to qualify as a RIC for any reason and become fully subject to corporate income tax, the resulting corporate taxes could substantially reduce our net assets, the amount of income available for distribution, and the actual amount distributed. Such a failure would have a material adverse effect on us and our shares. For additional information regarding asset coverage ratio and RIC requirements, see “Business—Competitive Advantages—Leverage” and “Material U.S. Federal Income Tax Considerations—Regulated Investment Company Status.”
From time to time, some of our debt investments may include success fees that would generate payments to us if the business is ultimately sold. Because the satisfaction of these success fees, and the ultimate payment of these fees, is uncertain, we do not recognize them as income until we have received payment. We sought and received approval for a change in accounting method from the IRS related to our tax treatment for success fees. As a result, we, in effect, will continue to account for the recognition of income from the success fees upon receipt, or when the amount becomes fixed. Prior to January 1, 2011, we treated the success fee amount as a capital gain for tax characterization purposes. However, starting January 1, 2011, the tax characterization of the success fee amount was and will be treated as ordinary income. The approved change in accounting method does not require us to retroactively change the capital gains treatment of the success fees received prior to January 1, 2011. As a result, we will be required to distribute such amounts to our stockholders in order to maintain RIC status for success fees we receive after January 1, 2011.
Changes in laws or regulations governing our operations, or changes in the interpretation thereof, and any failure by us to comply with laws or regulations governing our operations may adversely affect our business.
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We and our portfolio companies are subject to regulation by laws at the local, state and federal levels. These laws and regulations, as well as their interpretation, may be changed from time to time. Accordingly, any change in these laws or regulations, or their interpretation, or any failure by us or our portfolio companies to comply with these laws or regulations may adversely affect our business. For additional information regarding the regulations to which we are subject, see “Material U.S. Federal Income Tax Considerations—Regulated Investment Company Status” and “Regulation as a Business Development Company.”
We are subject to restrictions that may discourage a change of control. Certain provisions contained in our articles of incorporation and Maryland law may prohibit or restrict a change of control and adversely impact the price of our shares.
Our Board of Directors is divided into three classes, with the term of the directors in each class expiring every third year. At each annual meeting of stockholders, the successors to the class of directors whose term expires at such meeting will be elected to hold office for a term expiring at the annual meeting of stockholders held in the third year following the year of their election. After election, a director may only be removed by our stockholders for cause. Election of directors for staggered terms with limited rights to remove directors makes it more difficult for a hostile bidder to acquire control of us. The existence of this provision may negatively impact the price of our securities and may discourage third-party bids to acquire our securities. This provision may reduce any premiums paid to stockholders in a change in control transaction.
Certain provisions of Maryland law applicable to us prohibit business combinations with:
| • | any person who beneficially owns 10% or more of the voting power of our common stock (an “interested stockholder”); |
| • | an affiliate of ours who at any time within the two-year period prior to the date in question was an interested stockholder; or |
| • | an affiliate of an interested stockholder. |
These prohibitions last for five years after the most recent date on which the interested stockholder became an interested stockholder. Thereafter, any business combination with the interested stockholder must be recommended by our board of directors and approved by the affirmative vote of at least 80% of the votes entitled to be cast by holders of our outstanding shares of common stock and two-thirds of the votes entitled to be cast by holders of our common stock other than shares held by the interested stockholder. These requirements could have the effect of inhibiting a change in control even if a change in control were in our stockholders’ interest. These provisions of Maryland law do not apply, however, to business combinations that are approved or exempted by our Board of Directors prior to the time that someone becomes an interested stockholder.
Our articles of incorporation permit our Board of Directors to issue up to 50.0 million shares of capital stock. In addition, our Board of Directors, without any action by our stockholders, may amend our articles of incorporation from time to time to increase or decrease the aggregate number of shares or the number of shares of any class or series of stock that we have authority to issue. Our Board of Directors may classify or reclassify any unissued common stock or preferred stock and establish the preferences, conversion or other rights, voting powers, restrictions, limitations as to distributions, qualifications and terms or conditions of redemption of any such stock. Thus, our Board of Directors could authorize the issuance of preferred stock with terms and conditions that could have a priority as to distributions and amounts payable upon liquidation over the rights of the holders of our common stock, which it did in connection with our issuance in November 2011 of approximately 1.5 million shares of Series 2016 Term Preferred Stock. Preferred stock, including the Series 2016 Term Preferred Stock, could also have the effect of delaying, deferring or preventing a change in control of us, including an extraordinary transaction (such as a merger, tender offer or sale of all or substantially all of our assets) that might provide a premium price for holders of our common stock.
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Risks Related to an Investment in Our Common Stock and Our Preferred Stock
We may experience fluctuations in our quarterly and annual operating results.
We may experience fluctuations in our quarterly and annual operating results due to a number of factors, including, among others, variations in our investment income, the interest rates payable on the debt securities we acquire, the default rates on such securities, the level of our expenses, variations in and the timing of the recognition of realized and unrealized gains or losses, the level of our expenses, the degree to which we encounter competition in our markets, and general economic conditions, including the impacts of inflation. The majority of our portfolio companies are in industries that are directly impacted by inflation, such as manufacturing and consumer goods and services. Our portfolio companies may not be able to pass on to customers increases in their costs of production which could greatly affect their operating results, impacting their ability to repay our loans. In addition, any projected future decreases in our portfolio companies’ operating results due to inflation could adversely impact the fair value of those investments. Any decreases in the fair value of our investments could result in future realized and unrealized losses and therefore reduce our net assets resulting from operations. As a result of these factors, results for any period should not be relied upon as being indicative of performance in future periods.
There is a risk that you may not receive distributions.
Our current intention is to distribute at least 90% of our ordinary income and short-term capital gains to our stockholders on a quarterly basis by paying monthly distributions. On an annual basis, we intend to distribute net long-term capital gains, after giving effect to any prior year realized losses that are carried forward, by paying a one-time distribution. However, our Board of Directors may determine in certain cases to retain net realized long-term capital gains through a “deemed distribution” to supplement our equity capital and support the growth of our portfolio. We cannot assure you that we will achieve investment results or maintain a tax status that will allow or require any specified level of cash distributions.
Distributions by us have included and may in the future include a return of capital.
Our Board of Directors declares monthly distributions based on estimates of net investment income for each fiscal year, which may differ, and in the past have differed, from actual results. Because our distributions are based on estimates of net investment income that may differ from actual results, future distributions payable to our stockholders may also include a return of capital. Moreover, to the extent that we distribute amounts that exceed our accumulated earnings and profits, these distributions constitute a return of capital. A return of capital represents a return of a stockholder’s original investment in shares of our stock and should not be confused with a distribution from earnings and profits. Although return of capital distributions may not be taxable, such distributions may increase an investor’s tax liability for capital gains upon the sale of our shares by reducing the investor’s tax basis for such shares. Such returns of capital reduce our asset base and also adversely impact our ability to raise debt capital as a result of the leverage restrictions under the 1940 Act, which could have a material adverse impact on our ability to make new investments.
The market price of our shares may fluctuate significantly.
The trading price of our common stock and our preferred stock may fluctuate substantially. The extreme volatility and disruption that have affected the capital and credit markets for over a year have reached unprecedented levels in recent months. We have experienced greater than usual stock price volatility.
The market price and marketability of our shares may from time to time be significantly affected by numerous factors, including many over which we have no control and that may not be directly related to us. These factors include, but are not limited to, the following:
| • | general economic trends and other external factors; |
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| • | price and volume fluctuations in the stock market from time to time, which are often unrelated to the operating performance of particular companies; |
| • | significant volatility in the market price and trading volume of shares of RICs, BDCs or other companies in our sector, which is not necessarily related to the operating performance of these companies; |
| • | changes in regulatory policies or tax guidelines, particularly with respect to RICs or BDCs; |
| • | loss of BDC or RIC status; |
| • | changes in our earnings or variations in our operating results; |
| • | changes in prevailing interest rates; |
| • | changes in the value of our portfolio of investments; |
| • | any shortfall in our revenue or net income or any increase in losses from levels expected by securities analysts; |
| • | departure of key personnel; |
| • | operating performance of companies comparable to us; |
| • | short-selling pressure with respect to our shares or BDCs generally; |
| • | the announcement of proposed, or completed, offerings of our securities, including a rights offering; and |
| • | loss of a major funding source. |
Fluctuations in the trading prices of our shares may adversely affect the liquidity of the trading market for our shares and, if we seek to raise capital through future equity financings, our ability to raise such equity capital.
The issuance of subscription rights to our existing stockholders may dilute the ownership and voting powers by existing stockholders in our common stock, dilute the net asset value of their shares and have a material adverse effect on the trading price of our common stock.
There are significant capital raising constraints applicable to us under the 1940 Act when our stock is trading below its net asset value per share. In the event that we issue subscription rights to our existing common stockholders, there is a significant possibility that the rights offering will dilute the ownership interest and voting power of stockholders who do not fully exercise their subscription rights. Stockholders who do not fully exercise their subscription rights should expect that they will, upon completion of the rights offering, own a smaller proportional interest in Gladstone Capital than would otherwise be the case if they fully exercised their subscription rights. In addition, because the subscription price of the rights offering is likely to be less than our most recently determined net asset value per share, our common stockholders are likely to experience an immediate dilution of the per share net asset value of their shares as a result of the offer. As a result of these factors, any future rights offerings of our common stock, or our announcement of our intention to conduct a rights offering, could have a material adverse impact on the trading price of our common stock.
Shares of closed-end investment companies frequently trade at a discount from net asset value.
Shares of closed-end investment companies frequently trade at a discount from net asset value. Since our inception, our common stock has at times traded above net asset value, and at times traded below net asset value. During the past three years, our common stock has often traded, and at times significantly, below net asset value. Subsequent to September 30, 2011, our common stock has traded at discounts of up to 34.5% of our net asset value as of September 30, 2011. As of March 5, 2012, our common stock was trading at a discount of 14.1% of our net asset value as of December 31, 2011. This characteristic of shares of closed-end investment companies is separate and distinct from the risk that our net asset value per share will decline. As with any stock, the price of our shares will fluctuate with market conditions and other factors. If shares are sold, the price received may be more or less than the original investment. Whether investors will realize gains or losses upon the sale of our
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shares will not depend directly upon our net asset value, but will depend upon the market price of the shares at the time of sale. Since the market price of our shares will be affected by such factors as the relative demand for and supply of the shares in the market, general market and economic conditions and other factors beyond our control, we cannot predict whether the shares will trade at, below or above our net asset value. Under the 1940 Act, we are generally not able to issue additional shares of our common stock at a price below net asset value per share to purchasers other than our existing common stockholders through a rights offering without first obtaining the approval of our voting stockholders and our independent directors. Additionally, at times when our stock is trading below its net asset value per share, our dividend yield may exceed the weighted average returns that we would expect to realize on new investments that would be made with the proceeds from the sale of such stock, making it unlikely that we would determine to issue additional shares in such circumstances. Thus, for as long as our common stock trades below net asset value we will be subject to significant constraints on our ability to raise capital through the issuance of common stock. Additionally, an extended period of time in which we are unable to raise capital may restrict our ability to grow and adversely impact our ability to increase or maintain our distributions.
Common stockholders may incur dilution if we sell shares of our common stock in one or more offerings at prices below the then current net asset value per share of our common stock.
At our most recent annual meeting on February 16, 2012, our stockholders approved a proposal designed to allow us to sell shares of our common stock below the then current net asset value per share of our common stock in one or more offerings for a period of one year, subject to certain conditions (including, but not limited to, that the cumulative number of shares issued and sold pursuant to such authority does not exceed 25% of our then outstanding common stock immediately prior to each such sale). During the past three years, our common stock has often traded, and at times significantly, below net asset value. Any decision to sell shares of our common stock below the then current net asset value per share of our common stock would be subject to the determination by our Board of Directors that such issuance is in our and our stockholders’ best interests.
If we were to sell shares of our common stock below net asset value per share, such sales would result in an immediate dilution to the net asset value per share. This dilution would occur as a result of the sale of shares at a price below the then current net asset value per share of our common stock and a proportionately greater decrease in a stockholder’s interest in our earnings and assets and voting interest in us than the increase in our assets resulting from such issuance. The greater the difference between the sale price and the net asset value per share at the time of the offering, the more significant the dilutive impact would be. Because the number of shares of common stock that could be so issued and the timing of any issuance is not currently known, the actual dilutive effect, if any, cannot be currently predicted. However, if for example, we sold an additional 10% of our common stock at a 5% discount from net asset value, a common stockholder who did not participate in that offering for its proportionate interest would suffer net asset value dilution of up to 0.5% or $5 per $1,000 of net asset value.
If we fail to pay dividends on our Series 2016 Term Preferred Stock dividends for two years, the holders thereof will be entitled to elect a majority of our directors.
The terms of our Series 2016 Term Preferred Stock provide for annual dividends in the amount of $1.7813 per outstanding share. In accordance with the terms of our Series 2016 Term Preferred Stock, if we fail to pay dividends on the Series 2016 Term Preferred Stock for a period of two years, the holders of Series 2016 Term Preferred Stock will be entitled to elect a majority of our Board of Directors.
Our Series 2016 Term Preferred Stock magnifies the potential for gain or loss for our holders of common stock and the risks of investing in our common stock in the same way as our borrowings.
Preferred stock, which is another form of leverage, has the same risks to our common stockholders as borrowings because the dividends on any preferred stock we issue must be cumulative. Payment of such dividends and repayment of the liquidation preference of such preferred stock must take preference over any
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dividends or other payments to our common stockholders, and preferred stockholders are less subject to our expenses or losses and are not entitled to participate in any income or appreciation in excess of their stated preference.
An investment in Series 2016 Term Preferred Stock with a fixed interest rate bears interest rate risk.
Our Series 2016 Term Preferred Stock, in general, pays dividends at a fixed dividend rate of 7.125% per year. Prices of fixed income investments generally vary inversely with changes in market yields. The market yields on securities comparable to the Series 2016 Term Preferred Stock may increase, which would likely result in a decline in the secondary market price of the Series 2016 Term Preferred Stock prior to the term redemption date. This risk may be even more significant in light of the low nature of the currently prevailing market interest rates.
A liquid secondary trading market for our Series 2016 Term Preferred Stock may not develop.
Because we have no prior trading history for exchange-listed preferred stock, we cannot predict the trading patterns of the Series 2016 Term Preferred Stock, including the effective costs of trading the stock. Although our Series 2016 Term Preferred Stock is listed for trading on the New York Stock Exchange, there is a risk that such shares may be thinly traded, and the market for such shares may be relatively illiquid compared to the market for other types of securities, with the spread between the bid and asked prices considerably greater than the spreads of other securities with comparable terms and features.
The Series 2016 Term Preferred Stock is not rated.
We have not had the Series 2016 Term Preferred Stock rated by any rating agency. Unrated securities usually trade at a discount to similar, rated securities. As a result, there is a risk that the shares of our Series 2016 Term Preferred Stock may trade at a price that is lower than they might otherwise trade if they were rated by a rating agency.
The Series 2016 Term Preferred Stock bears a risk of early redemption by us.
We may voluntarily redeem some or all of the Series 2016 Term Preferred Stock on or after December 31, 2012, and we may be forced to redeem some or all of the Series 2016 Term Preferred Stock to meet regulatory requirements and the asset coverage requirements of such shares. Any such redemption may occur at a time that is unfavorable to holders of the Series 2016 Term Preferred Stock. We may have an incentive to redeem the Series 2016 Term Preferred Stock voluntarily before the term redemption date if market conditions allow us to issue other preferred stock or debt securities at a rate that is lower than the fixed dividend rate on the Series 2016 Term Preferred Stock.
Claims of holders of our Series 2016 Term Preferred Stock are subject to a risk of subordination relative to holders of our debt instruments.
Rights of holders of our Series 2016 Term Preferred Stock are subordinated to the rights of holders of our indebtedness. Therefore, dividends, distributions and other payments to holders of Series 2016 Term Preferred Stock in liquidation or otherwise may be subject to prior payments due to the holders of our indebtedness. In addition, under some circumstances the 1940 Act may provide debt holders with voting rights that are superior to the voting rights of holders of the Series 2016 Term Preferred Stock.
Holders of our Series 2016 Term Preferred Stock are subject to inflation risk.
Inflation is the reduction in the purchasing power of money resulting from the increase in the price of goods and services. Inflation risk is the risk that the inflation-adjusted, or “real,” value of an investment in Series 2016 Term Preferred Stock or the income from that investment will be worth less in the future. As inflation occurs, the real value of the Series 2016 Term Preferred Stock and dividends payable on such shares declines.
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Holders of our Series 2016 Term Preferred Stock bear reinvestment risk.
Given the five-year term and potential for early redemption of the Series 2016 Term Preferred Stock, holders of such shares may face an increased reinvestment risk, which is the risk that the return on an investment purchased with proceeds from the sale or redemption of the Series 2016 Term Preferred Stock may be lower than the return previously obtained from the investment in such shares.
Holders of our Series 2016 Term Preferred Stock bear dividend risk.
We may be unable to pay dividends on the Series 2016 Term Preferred Stock under some circumstances. The terms of our indebtedness preclude the payment of dividends in respect of equity securities, including the Series 2016 Term Preferred Stock, under certain conditions.
There is a risk of delay in our redemption of our Series 2016 Term Preferred Stock, and we may fail to redeem such securities as required by their terms.
We will generally make investments in private companies whose securities are not traded in any public market. Substantially all of the investments we presently hold and the investments we expect to acquire in the future are, and will be, subject to legal and other restrictions on resale and will otherwise be less liquid than publicly-traded securities. The illiquidity of our investments may make it difficult for us to obtain cash equal to the value at which we record our investments quickly if a need arises. If we are unable to obtain sufficient liquidity prior to the term redemption date, we may be forced to engage in a partial redemption or to delay a required redemption. If such a partial redemption or delay were to occur, the market price of the Series 2016 Term Preferred Stock might be adversely affected.
Other Risks
We could face losses and potential liability if intrusion, viruses or similar disruptions to our technology jeopardize our confidential information, whether through breach of our network security or otherwise.
Maintaining our network security is of critical importance because our systems store highly confidential financial models and portfolio company information. Although we have implemented, and will continue to implement, security measures, our technology platform is and will continue to be vulnerable to intrusion, computer viruses or similar disruptive problems caused by transmission from unauthorized users. The misappropriation of proprietary information could expose us to a risk of loss or litigation.
Terrorist attacks, acts of war, or national disasters may affect any market for our common stock, impact the businesses in which we invest, and harm our business, operating results, and financial conditions.
Terrorist acts, acts of war, or national disasters have created, and continue to create, economic and political uncertainties and have contributed to global economic instability. Future terrorist activities, military or security operations, or national disasters could further weaken the domestic/global economies and create additional uncertainties, which may negatively impact the businesses in which we invest directly or indirectly and, in turn, could have a material adverse impact on our business, operating results, and financial condition. Losses from terrorist attacks and national disasters are generally uninsurable.
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
All statements contained or incorporated by reference in this prospectus or any accompanying prospectus supplement, other than historical facts, may constitute “forward-looking statements.” These statements may relate to, among other things, future events or our future performance or financial condition. In some cases, you
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can identify forward-looking statements by terminology such as “may,” “might,” “believe,” “will,” “provided,” “anticipate,” “future,” “could,” “growth,” “plan,” “intend,” “expect,” “should,” “would,” “if,” “seek,” “possible,” “potential,” “likely” or the negative of such terms or comparable terminology. These forward-looking statements involve known and unknown risks, uncertainties and other factors that may cause our actual results, levels of activity, performance or achievements to be materially different from any future results, levels of activity, performance or achievements expressed or implied by such forward-looking statements. Such factors include, among others: (1) further adverse changes in the economy and the capital markets; (2) risks associated with negotiation and consummation of pending and future transactions; (3) the loss of one or more of our executive officers, in particular David Gladstone, Terry Lee Brubaker or George Stelljes III; (4) changes in our business strategy; (5) availability, terms and deployment of capital; (6) changes in our industry, interest rates, exchange rates or the general economy; (7) the degree and nature of our competition; and (8) those factors described in the “Risk Factors” section of this prospectus. We caution readers not to place undue reliance on any such forward-looking statements, which speak only as of the date made. We undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise, after the date of this prospectus.
Unless otherwise specified in any prospectus supplement accompanying this prospectus, we intend to use the net proceeds from the sale of the Securities for general corporate purposes. We expect the proceeds to be used first to pay down existing short-term debt, then to make investments in small and mid-sized businesses in accordance with our investment objective, with any remaining proceeds to be used for other general corporate purposes. Indebtedness under our credit facility currently accrues interest at the rate of approximately 5.25% and matures on January 18, 2015. We anticipate that substantially all of the net proceeds of any offering of Securities will be utilized in the manner described above within three months of the completion of such offering. Pending such utilization, we intend to invest the net proceeds of any offering of Securities primarily in cash, cash equivalents, U.S. government securities, and other high-quality debt investments that mature in one year or less from the date of investment, consistent with the requirements for continued qualification as a RIC for federal income tax purposes.
PRICE RANGE OF COMMON STOCK AND DISTRIBUTIONS
We currently intend to distribute in the form of cash dividends, a minimum of 90% of our ordinary income and short-term capital gains, if any, on a quarterly basis to our stockholders in the form of monthly dividends. We intend to retain long-term capital gains and treat them as deemed distributions for tax purposes. We report the estimated tax characteristics of each dividend when declared while the actual tax characteristics of dividends are reported annually to each stockholder on Form 1099 DIV. There is no assurance that we will achieve investment results or maintain a tax status that will permit any specified level of cash distributions or year-to-year increases in cash distributions. At the option of a holder of record of common stock, all cash distributions can be reinvested automatically under our dividend reinvestment plan in additional whole and fractional shares. A stockholder whose shares are held in the name of a broker or other nominee should contact the broker or nominee regarding participation in our dividend reinvestment plan on the stockholder’s behalf. See “Risk Factors — We will be subject to corporate-level tax if we are unable to satisfy Code requirements for RIC qualification;” “Dividend Reinvestment Plan;” and “Material U.S. Federal Income Tax Considerations.”
Our common stock is quoted on The NASDAQ Global Select Market (“NASDAQ”) under the symbol “GLAD.” Our common stock has historically traded at prices both above and below its net asset value. There can be no assurance, however, that any premium to net asset value will be attained or maintained. As of March 5, 2012, we had 65 stockholders of record, meaning individuals or entities that we carry in our records as the registered holder (although not necessarily the beneficial owner) of our common stock.
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The following table sets forth the range of high and low intraday sale prices of our common stock as reported on The NASDAQ and the dividends declared by us for the last two completed fiscal years and the current fiscal year through March 5, 2012.
| NAV(1) | High | Low | Dividend Declared |
(Discount) Premium of High Sales Price to NAV(2) |
Discount of Low Sales Price to NAV(2) |
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| Fiscal Year ended September 30, 2010 |
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| First Quarter |
$ | 11.92 | $ | 9.50 | $ | 7.50 | $ | 0.21 | (20 | )% | (37 | )% | ||||||||||||
| Second Quarter |
12.10 | 12.32 | 7.10 | 0.21 | 2 | (41 | ) | |||||||||||||||||
| Third Quarter |
11.81 | 14.06 | 9.58 | 0.21 | 19 | (19 | ) | |||||||||||||||||
| Fourth Quarter |
11.85 | 12.73 | 10.15 | 0.21 | 7 | (14 | ) | |||||||||||||||||
| Fiscal Year ending September 30, 2011 |
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| First Quarter |
11.74 | 12.17 | 10.83 | 0.21 | 4 | (8 | ) | |||||||||||||||||
| Second Quarter |
11.18 | 12.12 | 10.46 | 0.21 | 8 | (6 | ) | |||||||||||||||||
| Third Quarter |
10.34 | 11.66 | 9.22 | 0.21 | 13 | (11 | ) | |||||||||||||||||
| Fourth Quarter |
10.16 | 9.75 | 6.86 | 0.21 | (4 | ) | (32 | ) | ||||||||||||||||
| Fiscal Year ending September 30, 2012 |
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| First Quarter |
9.90 | 8.74 | 6.46 | 0.21 | (12 | ) | (35 | ) | ||||||||||||||||
| Second Quarter (through March 5, 2012) |
* | 9.33 | 7.69 | 0.21 | * | * | ||||||||||||||||||
| (1) | Net asset value (“NAV”) per share is determined as of the last day in the relevant quarter and therefore may not reflect the NAV per share on the date of the high and low intraday sale prices. The NAV per shares shown are based on outstanding shares at the end of each period. |
| (2) | The (discounts) premiums set forth in these columns represent the high or low, as applicable, intraday sale price per share for the relevant quarter minus the NAV per share as of the end of such quarter, and therefore may not reflect the (discount) premium to NAV per share on the date of the high and low intraday sale prices. |
| * | Not yet available, as the NAV per share as of the end of this quarter has not yet been determined. |
The following are our outstanding classes of securities as of December 31, 2011.
| (1) Title of Class |
(2) Amount Authorized |
(3) Amount Held by us or for Our Account |
(4) Amount Outstanding Exclusive of Amounts Shown Under(3) |
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| Common Stock |
46,000,000 | — | 21,019,242 | |||||||||
| Term Preferred Stock |
4,000,000 | — | 1,539,882 | |||||||||
RATIOS OF EARNINGS TO FIXED CHARGES
For the three months ended December 31, 2011 and 2010 and the years ended September 30, 2011, 2010, 2009, 2008 and 2007, the ratios of three income metrics to fixed charges of the Company, computed as set forth below, were as follows
| Three Months Ended December 31, |
Year Ended September 30, | |||||||||||||||||||||||||||
| 2011 | 2010 | 2011 | 2010 | 2009 | 2008 | 2007 | ||||||||||||||||||||||
| Net investment income plus fixed charges to fixed charges |
2.9x | 27.2x | 5.5x | 4.0x | 3.0x | 3.7x | 4.0x | |||||||||||||||||||||
| Net investment income plus realized gains (losses) plus fixed charges to fixed charges |
(0.6x | ) | 27.2x | 5.2x | 3.5x | 0.5x | 3.6x | 4.0x | ||||||||||||||||||||
| Net increase (decrease) in net assets resulting from operations plus fixed charges to fixed charges |
0.5x | 13.0x | (4.2x | ) | 3.8x | 1.4x | (1.2x | ) | 3.0x | |||||||||||||||||||
For purposes of computing the ratios, fixed charges include interest expense on borrowings, dividend expense on mandatorily redeemable preferred stock and amortization of deferred financing fees.
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CONSOLIDATED SELECTED FINANCIAL DATA
The following table summarizes our consolidated selected financial data and other data. The consolidated selected financial data as of September 30, 2011 and 2010 and for the fiscal years ended September 30, 2011, 2010 and 2009 is derived from our audited consolidated financial statements included in this prospectus. The consolidated selected financial data as of and for the three months ended December 31, 2011 and 2010 is derived from our unaudited condensed consolidated financial statements included in this prospectus. The consolidated selected financial data as of September 30, 2009, 2008 and 2007 and for the fiscal years ended September 30, 2008 and 2007 is derived from our audited consolidated financial statements that are not included in this prospectus. The other data included in the second table is unaudited. You should read this data together with our consolidated financial statements and notes thereto presented elsewhere in this prospectus and the information under “Management’s Discussion and Analysis of Financial Condition and Results of Operations” for more information.
| Three Months Ended December 31, |
Year Ended September 30, | |||||||||||||||||||||||||||
| 2011 | 2010 | 2011 | 2010 | 2009 | 2008 | 2007 | ||||||||||||||||||||||
| (unaudited | ) | (unaudited | ) | |||||||||||||||||||||||||
| Statement of operations data: |
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| Total investment income |
$ | 9,320 | $ | 8,006 | $ | 35,211 | $ | 35,539 | $ | 42,618 | $ | 45,725 | $ | 36,687 | ||||||||||||||
| Total expenses net of credits from Adviser |
4,902 | 3,369 | 16,799 | 17,780 | 21,587 | 19,172 | 14,426 | |||||||||||||||||||||
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| Net investment income |
4,418 | 4,637 | 18,412 | 17,759 | 21,031 | 26,553 | 22,261 | |||||||||||||||||||||
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| Net realized and unrealized (loss) gain on investments, derivatives and borrowings |
(5,707 | ) | (2,505 | ) | (39,511 | ) | (1,365 | ) | (17,248 | ) | (47,815 | ) | (7,309 | ) | ||||||||||||||
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| Net (decrease) increase in net assets resulting from operations |
$ | (1,289 | ) | $ | 2,132 | $ | (21,099 | ) | $ | 16,394 | $ | 3,783 | $ | (21,262 | ) | $ | 14,952 | |||||||||||
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| Per common share data(1): |
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| Net (decrease) increase in net assets resulting from operations per common share — |
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| Basic |
$ | (0.06 | ) | $ | 0.10 | $ | (1.00 | ) | $ | (0.78 | ) | $ | (0.18 | ) | $ | (1.08 | ) | $ | 1.13 | |||||||||
| Diluted |
(0.06 | ) | 0.10 | (1.00 | ) | (0.78 | ) | (0.18 | ) | (1.08 | ) | 1.13 | ||||||||||||||||
| Net investment income per common share — |
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| Basic |
0.21 | 0.22 | 0.88 | 0.84 | 1.00 | 1.35 | 1.69 | |||||||||||||||||||||
| Diluted |
0.21 | 0.22 | 0.88 | 0.84 | 1.00 | 1.35 | 1.69 | |||||||||||||||||||||
| Cash distributions declared per common share |
(0.21 | ) | (0.21 | ) | (0.84 | ) | (0.84 | ) | (1.26 | ) | (1.68 | ) | (1.68 | ) | ||||||||||||||
| Weighted common shares outstanding (basic and diluted) |
21,038,590 | 21,039,242 | 21,039,242 | 21,060,351 | 21,087,574 | 19,699,796 | 13,173,822 | |||||||||||||||||||||
| Statement of assets and liabilities data: |
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| Total assets |
$ | 308,116 | $ | 275,497 | $ | 317,624 | $ | 270,518 | $ | 335,910 | $ | 425,698 | $ | 367,729 | ||||||||||||||
| Net assets |
208,016 | 246,960 | 213,721 | 249,246 | 249,076 | 271,748 | 220,959 | |||||||||||||||||||||
| Net asset value per common share |
9.90 | 11.74 | 10.16 | 11.85 | 11.81 | 12.89 | 14.97 | |||||||||||||||||||||
| Common shares outstanding |
21,019,242 | 21,039,242 | 21,039,242 | 21,039,242 | 21,087,574 | 21,087,574 | 14,762,574 | |||||||||||||||||||||
| Senior securities data: |
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| Borrowings under line of credit(2) |
$ | 57,213 | $ | 25,301 | $ | 100,012 | $ | 17,940 | $ | 83,350 | $ | 151,030 | $ | 144,440 | ||||||||||||||
| Mandatorily redeemable preferred stock |
38,497 | — | — | — | — | — | — | |||||||||||||||||||||
| Asset coverage ratio(3)(4) |
318 | % | 1,061 | % | 314 | % | 1,419 | % | 396 | % | 279 | % | 252 | % | ||||||||||||||
| Asset coverage per unit(4) |
$ | 3,179 | $ | 10,612 | $ | 3,144 | $ | 14,187 | $ | 3,963 | $ | 2,792 | $ | 2,294 | ||||||||||||||
| (1) | Per share data for net (decrease) increase in net assets resulting from operations is based on the weighted average common stock outstanding for both basic and diluted. |
| (2) | See “Management’s Discussion and Analysis of Financial Condition and Results of Operations” for more information regarding our level of indebtedness. |
| (3) | As a business development company, we are generally required to maintain an asset coverage ratio of 200% of total consolidated assets, less all liabilities and indebtedness not represented by senior securities, to total borrowings and guaranty commitments. Our mandatorily redeemable preferred stock is characterized as borrowings for the asset coverage ratio. |
| (4) | Asset coverage per unit is the asset coverage ratio expressed in terms of dollar amounts per one thousand of indebtedness. |
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| Three Months
Ended December 31, |
Year Ended September 30, | |||||||||||||||||||||||||||
| 2011 | 2010 | 2011 | 2010 | 2009 | 2008 | 2007 | ||||||||||||||||||||||
| (Dollar amounts in thousands, except per unit data) | ||||||||||||||||||||||||||||
| Other unaudited data: |
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| Number of portfolio companies as of end of period |
57 | 41 | 59 | 39 | 48 | 63 | 56 | |||||||||||||||||||||
| Average size of portfolio company investment at cost |
$ | 6,499 | $ | 7,233 | $ | 6,488 | $ | 7,647 | $ | 7,592 | $ | 7,315 | $ | 6,352 | ||||||||||||||
| Principal amount of new investments |
(1,590 | ) | (9,000 | ) | (110,903 | ) | (10,580 | ) | — | (141,017 | ) | (214,825 | ) | |||||||||||||||
| Proceeds from loan repayments and investments sold |
15,269 | 13,245 | 50,002 | 85,634 | 96,693 | 70,482 | 121,818 | |||||||||||||||||||||
| Weighted average yield on investments(1): |
10.86 | % | 11.41 | % | 11.16 | % | 10.85 | % | 10.07 | % | 10.38 | % | 12.39 | % | ||||||||||||||
| Total return(2) |
14.25 | 4.11 | (33.77 | ) | 37.46 | (30.94 | ) | (13.90 | ) | (4.40 | ) | |||||||||||||||||
| (1) | Weighted average yield on investments equals interest income on investments divided by the annualized weighted average investment balance throughout the period. |
| (2) | Total return equals the (decrease) increase of the ending market value over the beginning market value, taking into account monthly distributions reinvested in accordance with our dividend reinvestment plan, divided by the monthly beginning market value. |
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MANAGEMENT’S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
(dollar amounts in thousands, except per share data or unless otherwise indicated)
The following analysis of our financial condition and results of operations should be read in conjunction with our consolidated financial statements and the notes thereto contained elsewhere herein.
OVERVIEW
General
We were incorporated under the General Corporation Laws of the State of Maryland on May 30, 2001. Our investment objective is to achieve a high level of current income by investing in debt securities, consisting primarily of senior notes, senior subordinated notes and junior subordinated notes, with a particular focus on senior notes, of established private businesses in the United States that are substantially owned by leveraged buyout funds, individual investors or are family-owned businesses. In addition, we may acquire existing loans that meet this profile from other funds. We also seek to provide our stockholders with long-term capital growth through the appreciation in the value of warrants or other equity instruments that we may receive when we make loans. We operate as a closed-end, non-diversified management investment company, and have elected to be treated as a business development company (“BDC”) under the Investment Company Act of 1940, as amended (the “1940 Act”). In addition, for tax purposes we have elected to be treated as a regulated investment company (“RIC”) under the Internal Revenue Code of 1986, as amended (the “Code”).
We focus on investing in small and medium-sized private U.S. businesses that meet certain criteria, including some but not all of the following: the potential for growth in cash flow, adequate assets for loan collateral, experienced management teams with a significant ownership interest in the borrower, profitable operations based on the borrower’s cash flow, reasonable capitalization of the borrower (usually by leveraged buyout funds or venture capital funds) and the potential to realize appreciation and gain liquidity in our equity position, if any. We anticipate that liquidity in our equity position will be achieved through a merger or acquisition of the borrower, a public offering of the borrower’s stock or by exercising our right to require the borrower to repurchase our warrants, though there can be no assurance that we will always have these rights. We lend to borrowers that need funds to finance growth, restructure their balance sheets or effect a change of control. We invest by ourselves or jointly with other funds and/or management of the portfolio company, depending on the opportunity. If we are participating in an investment with one or more co-investors, our investment is likely to be smaller than if we were investing alone.
Business Environment
While economic conditions generally appear to be improving, we remain cautious about a long-term economic recovery. The recent recession in general, and the disruptions in the capital markets in particular, have impacted our liquidity options and increased the cost of debt and equity capital. Many of our portfolio companies, as well as those that we evaluate for possible investment, are impacted by these economic conditions, and if these conditions continue to persist, it may affect their ability to repay our loans or engage in a liquidity event, such as a sale, recapitalization or initial public offering. The economic conditions could also disproportionately impact some of the industries in which we have invested, causing us to be more vulnerable to losses in our portfolio, which could cause the number of our non-performing assets to increase and the fair market value of our portfolio to decrease. We do not know when market conditions will continue to improve again or if adverse conditions will again intensify, and we do not know the full extent to which the economic downturn will affect us. If market instability persists or intensifies, we may experience continued difficulty in raising additional capital.
However, during these distressed economic times, we have been able to complete both a preferred stock public offering and a renewal of our $137.0 million line of credit (our “Credit Facility” defined under “Financing
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Highlights” discussion further below) for a three year period. In November 2011, we issued approximately 1.5 million shares of 7.125% Series 2016 Term Preferred Stock for gross proceeds of $38.5 million. In addition, in January 2012 we closed on an amendment on our $137.0 million line of credit to extend its maturity until 2015. Both of these events are discussed in further detail below under “Financing Highlights.”
Market conditions have affected the trading price of our common stock and our ability to finance new investments through the issuance of equity. On March 5, 2012, the closing market price of our common stock was $8.50, a 14.1% discount to our December 31, 2011 net asset value (“NAV”) per common share of $9.90. When our stock trades below NAV, as it has often traded over the last three years, our ability to issue equity is constrained by provisions of the 1940 Act, which generally prohibits the issuance and sale of our common stock below NAV per common share without stockholder approval other than through sales to our then-existing stockholders pursuant to a rights offering. At our annual meeting of stockholders held on February 16, 2012, our stockholders approved a proposal which authorizes us to sell shares of our common stock at a price below our then current NAV per common share subject to certain limitations (including, but not limited to, that the cumulative number of shares issued and sold pursuant to such authority does not exceed 25% of our then outstanding common stock immediately prior to each such sale) for a period of one year from the date of approval, provided that our Board of Directors makes certain determinations prior to any such sale. We expect that at the next annual stockholders meeting scheduled in February 2013, our stockholders will again be asked to vote in favor of renewing this proposal for another year.
Challenges in the current market are intensified for us by certain regulatory limitations under the Code and the 1940 Act, as well as contractual restrictions under the agreement governing our Credit Facility that further constrain our ability to access the capital markets. To maintain our qualification as a RIC, we must satisfy, among other requirements, an annual distribution requirement to pay out at least 90% of our ordinary income and short-term capital gains to our stockholders. Because we are required to distribute our income in this manner, and because the illiquidity of many of our investments makes it difficult for us to finance new investments through the sale of current investments, our ability to make new investments is highly dependent upon external financing. Our external financing sources include the issuance of equity securities, debt securities or other leverage, such as borrowings under our line of credit. Our ability to seek external debt financing, to the extent that it is available under current market conditions, is further subject to the asset coverage limitations of the 1940 Act, which require us to have at least a 200% asset coverage ratio, meaning, generally, that for every dollar of debt, we must have two dollars of assets.
The continued unsteady economic recovery may also continue to cause the value of the collateral securing some of our loans to fluctuate, as well as the value of our equity investments, which has impacted and may continue to impact our ability to borrow under our Credit Facility. Additionally, our Credit Facility contains covenants regarding the maintenance of certain minimum loan concentrations and net worth covenants, which are affected by the decrease in value of our portfolio. Failure to meet these requirements would result in a default which, if we are unable to obtain a waiver from our lenders, would cause an acceleration of our repayment obligations under our Credit Facility. As of December 31, 2011, we were in compliance with all of our Credit Facility’s covenants.
We expect that, given these regulatory and contractual constraints in combination with current market conditions, debt and equity capital may be costly or difficult for us to access in the near term. However, we believe that our recent public offering of Series 2016 Term Preferred Stock and our three year renewal on our Credit Facility will increase our ability to make conservative investments in businesses that we believe will weather the current economic conditions and will be likely to produce attractive long-term returns for our stockholders.
Investment Highlights
During the fiscal year ended September 30, 2011, we extended $110.9 million in new debt and equity investments to 25 new portfolio companies, and we extended $25.4 million of investments to existing portfolio companies through revolver draws or additions to term notes. Also, during the fiscal year ended September 30, 2011, we exited five portfolio companies for aggregate proceeds of approximately $25.8 million, and we received scheduled and
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unscheduled contractual principal repayments of approximately $20.0 million from existing portfolio companies. Since our initial public offering in August 2001, we have made 306 different loans to, or investments in, 153 companies for a total of approximately $1.1 billion, before giving effect to principal repayments on investments and divestitures.
During the fiscal year ended September 30, 2011, we executed the following transactions with certain of our portfolio companies:
Purchases
| • | During the year ended September 30, 2011, we extended $95.7 million of senior term or senior subordinated syndicated loan investments to 23 new portfolio companies and $15.2 million of investments to two new proprietary portfolio companies (North American Aircraft Services LLC and Westland Technologies, Inc.). In monitoring the market activity during the year ended September 30, 2011, we noted favorable syndicate loan marketplace conditions and consequently increased our investment in such loans. The majority of our senior syndicated loan investments occurred during the quarters ended March 31 and June 30, 2011. |
Repayments and Exits
| • | During the year ended September 30, 2011, 36 borrowers made principal repayments totaling $45.8 million in the aggregate, consisting of $16.6 million in unscheduled payoffs as well as $29.2 million in contractual amortization, revolver repayments and principal payments. Included in the principal payments were payoffs of four portfolio companies at par, Interfilm Holdings, Inc., Puerto Rico Cable Acquisition Company, Inc., Pinnacle Treatment Centers, Inc. and Airvana Network Solutions, Inc. Additionally, we sold one portfolio company, Finn Corporation, for $37 in net proceeds. |
Workouts
| • | In January 2011, we purchased common stock for $1.5 million from existing shareholders of Sunshine Media Holdings (“Sunshine Media”), a publisher of regional B2B trade magazines, which gave us a controlling interest in the company and resulted in the reclassification of the investment from Non-Control/Non-Affiliate to Control during the quarter ended March 31, 2011. Additionally, we have extended $1.3 million to Sunshine Media through revolver draws since January 2011. |
| • | In July 2011, we increased our investment in Viapack, Inc. (“Viapack”), a manufacturer of polyethylene film, by adding a line of credit facility and purchasing preferred equity; which gave us a controlling interest in the company and resulted in the reclassification of the investment from Non-Control/Non-Affiliate to Control during the quarter ended September 30, 2011. The facility had $1.6 million drawn as of September 30, 2011. |
| • | In August 2011, we restructured our loan to SCI Cable, Inc. (“SCI”), a cable, internet and voice services provider, through a UCC Article 9 sale. This resulted in a new control entity, Kansas Cable Holdings, Inc., obtaining certain of the assets of SCI and we recognized a realized loss of $1.3 million during the quarter ended September 30, 2011. Kansas Cable Holdings, Inc. replaced SCI on the Schedule of Investments and remains on non-accrual status as of September 30, 2011. |
Financing Highlights
Renewal of Credit Facility
On January 19, 2012, we entered into Amendment No. 3 to the fourth amended and restated credit agreement (the “Credit Facility”), through Gladstone Business Loan, LLC (“Business Loan”), to extend the
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maturity date of our $137.0 million line of credit from March 15, 2012 to January 18, 2015 (the “Maturity Date”). The interest rates remained unchanged. The Credit Facility was arranged by Key Equipment Finance Inc. (“Keybank”) as administrative agent, with Branch Banking and Trust Company (“BB&T”) and ING Capital LLC (“ING”) also joining the Credit Facility as committed lenders. Subject to certain terms and conditions, the Credit Facility may be expanded to a maximum of $237.0 million through the addition of other committed lenders to the facility. If the Credit Facility is not renewed or extended by the Maturity Date, all principal and interest will be due and payable on or before January 18, 2016 (one year after the Maturity Date). The Credit Facility also limits payments on distributions to the aggregate net investment income for each of the twelve month periods ended September 30, 2011, 2012, 2013, 2014 and 2015. The interest rates on advances under the Credit Facility remained unchanged at 30-day London Interbank Offered Rate (“LIBOR”) subject to a minimum rate of 1.5%, plus 3.75% per annum, with a commitment fee of 0.5% per annum on undrawn amounts when the Credit Facility is drawn more than 50% and 1.0% per annum on undrawn amounts when the Credit Facility is drawn less than 50%. We incurred fees of $1.4 million in connection with this amendment. All other terms of the Credit Facility remained substantially unchanged.
Term Preferred Stock Offering
On November 4, 2011, we completed an offering of 1.4 million shares of 7.125% Series 2016 Term Preferred Stock, par value $0.001 per share at a public offering price of $25.00 per share under a shelf registration statement on Form N-2 (File No. 333-162592) and pursuant to a prospectus dated July 15, 2011, as supplemented by a final prospectus supplement dated October 28, 2011, which was filed with the SEC on October 31, 2011. Net proceeds of the offering, after deducting underwriting discounts and estimated offering expenses borne by us were approximately $33.0 million and were used to repay a portion of outstanding borrowings under our Credit Facility. On November 17, 2011, the underwriters exercised their option to purchase an additional 139,882 shares of our Series 2016 Term Preferred Stock to cover over-allotments, for which we received net proceeds, after deducting underwriting discounts and other offering expenses, of $3.4 million. These proceeds were also used to repay a portion of outstanding borrowings under our Credit Facility.
Investment Strategy
Our strategy is to make loans at favorable interest rates to small and medium-sized U.S. businesses. Our loans typically range from $5 million to $20 million, although this investment size may vary proportionately as the size of our capital base changes, generally mature in no more than seven years and accrue interest at variable rates and to a lesser extent fixed rates. Because the majority of our portfolio loans consist of term debt of private companies that typically cannot or will not expend the resources to have their debt securities rated by a credit rating agency, we expect that most, if not all, of the debt securities we acquire will be unrated. Accordingly, we cannot accurately predict what ratings these loans might receive if they were rated, and thus cannot determine whether or not they could be considered “investment grade” quality.
To the extent possible, our loans generally are collateralized by a security interest in the borrower’s assets. Interest payments are generally made monthly or quarterly with amortization of principal generally being deferred for several years. The principal amount of the loans and any accrued but unpaid interest generally become due in no more than seven years.
Original issue discount (“OID”) arises when we extend a loan and receive an equity interest in the borrower at the same time, or purchase a loan at a discount to par. To the extent that the price paid for the equity is not at market value, we must allocate part of the price paid for the loan, to the value of the equity. Then the amount allocated to the equity, the OID, must be amortized over the life of the loan. The amortization of OID also produces income that must be recognized for purposes of satisfying the distribution requirements for a RIC under Subchapter M of the Code, whereas the cash is received, if at all, when the equity instrument is sold. As of September 30, 2011, we had 27 loans with OID income, as compared to four OID loans as of September 30, 2010. We increased the number of syndicated loan investments in our portfolio during 2011, which generally have an OID component. We recorded OID income of $0.2 million for the year ended September 30, 2011, as
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compared to $21 for the year ended September 30, 2010. The unamortized balance of OID investments as of September 30, 2011 and 2010 totaled $1.5 million and $0.3 million, respectively.
Some of our loans may contain a provision that calls for some portion of the interest payments to be deferred and added to the principal balance so that the interest is paid, together with the principal, at maturity. This form of deferred interest is often called “paid in kind” (“PIK”) interest and, when earned, we record PIK interest as interest income and add the PIK interest to the principal balance of the loans. We seek to avoid PIK interest with all potential investments under review. During the quarter ended June 30, 2011, our sole PIK investment was restructured and the PIK interest component was eliminated, therefore as of September 30, 2011, we had no investments that bore PIK interest, as compared to one investments with PIK interest as of September 30, 2010.
In addition, as a BDC under the 1940 Act, we are required to make available significant managerial assistance to our portfolio companies. Our investment adviser, Gladstone Management Corporation (the “Adviser”) provides these services on our behalf through its officers who are also our officers. Currently, neither we nor our Adviser charges a fee for managerial assistance; however, if our Adviser does receive fees for managerial assistance, our Adviser will credit the managerial assistance fees to the base management fee due from us to our Adviser.
Our Adviser and Gladstone Securities, LLC (“Gladstone Securities”) a broker-dealer registered with the FINRA, each an affiliate of ours, receive fees for certain services they separately provide to certain of our portfolio companies. Such fees are generally paid directly to our Adviser or Gladstone Securities, as applicable. When our Adviser receives such fees, 50% of certain of those fees and 100% of others are credited against the base management fee that we pay to our Adviser. Gladstone Securities provides certain of our portfolio companies with investment banking and due diligence services; these fees do not impact the overall fees that we pay the Adviser.
Our Adviser also receives fees for monitoring and reviewing portfolio company investments. These fees are recurring and are generally paid annually or quarterly in advance to our Adviser throughout the life of the investment. Fees of this nature are recorded as revenue by our Adviser when earned and are not credited against the base management fee. We may receive fees for the origination and closing services we provide to portfolio companies through our Adviser. These fees are paid directly to us and are recognized as other income upon closing of the originated investment.
Prior to making an investment, we ordinarily enter into a non-binding term sheet with the potential borrower. These non-binding term sheets are generally subject to a number of conditions, including, but not limited to, the satisfactory completion of our due diligence investigations of the potential borrower’s business, reaching agreement on the legal documentation for the loan, and the receipt of all necessary consents. Upon execution of the non-binding term sheet, the potential borrower generally pays the Adviser a non-refundable fee for services rendered by the Adviser through the date of the non-binding term sheet. These fees are received by the Adviser and are offset against the base management fee payable to the Adviser, which has the effect of reducing our expenses to the extent of any such fees received by the Adviser.
In the event that we expend significant effort in considering and negotiating a potential investment that ultimately is not consummated, we generally will seek reimbursement from the proposed borrower for our reasonable expenses incurred in connection with the transaction, including legal fees. Any amounts collected for expenses incurred by the Adviser in connection with unconsummated investments will be reimbursed to the Adviser. Amounts collected for these expenses incurred by us will be reimbursed to us and will be recognized in the period in which such reimbursement is received, however, there can be no guarantee that we will be successful in collecting any such reimbursements.
Our Adviser and Administrator
Our Adviser is led by a management team which has extensive experience in our lines of business. Our Adviser is controlled by David Gladstone, our chairman and chief executive officer. Mr. Gladstone is also the chairman and chief executive officer of our Adviser. Terry Lee Brubaker, our vice chairman, chief operating
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officer, secretary and director, is a member of the board of directors of our Adviser and its vice chairman and chief operating officer and has substantial experience in acquisitions and operations of companies., George Stelljes III, our president, chief investment officer and director, is a member of the board of directors of our Adviser and its president and chief investment officer and has extensive experience in leveraged finance. Gladstone Administration, LLC (the “Administrator”), an affiliate of our Adviser, employs our chief financial officer, chief accounting officer, chief compliance officer, internal counsel, and their respective staffs.
Our Adviser and Administrator also provide investment advisory and administrative services to our affiliates, Gladstone Commercial Corporation (“Gladstone Commercial”), a publicly-traded real estate investment trust; Gladstone Investment Corporation (“Gladstone Investment”), a publicly-traded BDC and RIC; Gladstone Lending Corporation (“Gladstone Lending”), a private corporation that was formed to primarily invest in first and second lien term loans that has filed a registration statement on Form N-2 with the SEC, but which has not yet commenced operations; Gladstone Partners Fund, L.P., a private partnership fund formed primarily to co-invest with us and Gladstone Investment and Gladstone Land Corporation, a private agricultural real estate company. Excluding our chief financial officer, all of our executive officers serve as either directors or executive officers, or both, of our Adviser, our Administrator, Gladstone Commercial and Gladstone Investment. In the future, our Adviser and Administrator may provide investment advisory and administrative services, respectively, to other funds, both public and private.
Investment Advisory and Management Agreement
Under the amended and restated investment advisory agreement (“Advisory Agreement”), we pay our Adviser an annual base management fee of 2% of our average gross assets, which is defined as total assets, including investments made with proceeds of borrowings, less any uninvested cash or cash equivalents resulting from borrowings, valued at the end of the two most recently completed calendar quarters and appropriately adjusted for any share issuances or repurchases during the current calendar quarter.
We also pay our Adviser a two-part incentive fee under the Advisory Agreement. The first part of the incentive fee is an income-based incentive fee which rewards our Adviser if our quarterly net investment income (before giving effect to any incentive fee) exceeds 1.75% of our net assets (the “hurdle rate”). The second part of the incentive fee is a capital gains-based incentive fee that is determined and payable in arrears as of the end of each fiscal year (or upon termination of the Advisory Agreement, as of the termination date), and equals 20% of our realized capital gains as of the end of the fiscal year. In determining the capital gains-based incentive fee payable to our Adviser, we will calculate the cumulative aggregate realized capital gains and cumulative aggregate realized capital losses since our inception, and the aggregate unrealized capital depreciation as of the date of the calculation, as applicable, with respect to each of the investments in our portfolio. The Adviser has not earned the capital gains-based portion of the incentive fee since our inception.
We pay our direct expenses including, but not limited to, directors’ fees, legal and accounting fees, stockholder related expenses, and directors and officers insurance under the Advisory Agreement.
Beginning in April 2006, our Board of Directors has accepted from the Adviser, unconditional and irrevocable voluntarily waivers on a quarterly basis to reduce the annual 2.0% base management fee on senior syndicated loans to 0.5% to the extent that proceeds resulting from borrowings were used to purchase such syndicated loan participations. In addition to the base management and incentive fees under the Advisory Agreement, 50% of certain fees and 100% of others received by the Adviser from our portfolio companies are credited against the investment advisory fee and paid to the Adviser.
The Adviser services our loan portfolio, pursuant to a loan servicing agreement with our wholly-owned subsidiary Business Loan, in return for a 1.5% annual fee, based on the monthly aggregate outstanding loan balance of the loans pledged under the Credit Facility.
On July 12, 2011, our Board of Directors approved the renewal of the Advisory Agreement with our Adviser through August 31, 2012. We expect that our Board of Directors will approve a further one year renewal in July 2012.
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Administration Agreement
We are party to an administration agreement with our Administrator (the “Administration Agreement”), whereby we pay separately for administrative services. The Administration Agreement provides for payments equal to our allocable portion of the Administrator’s overhead expenses in performing its obligations under the Administration Agreement including, but not limited to, rent and our allocable portion of the salaries and benefits expenses of our chief financial officer, chief accounting officer, chief compliance officer, internal counsel, and their respective staffs. Our allocable portion of expenses is generally derived by multiplying our Administrator’s total allocable expenses by the percentage of our total assets at the beginning of the quarter in comparison to the total assets at the beginning of the quarter of all companies managed by our Adviser under similar agreements. On July 12, 2011, our Board of Directors approved the renewal of this Administration Agreement through August 31, 2012. We expect that our Board of Directors will approve a further one year renewal in July 2012.
Critical Accounting Policies
The preparation of financial statements and related disclosures in conformity with GAAP requires management to make estimates and assumptions that affect the reported consolidated amounts of assets and liabilities, including disclosure of contingent assets and liabilities at the date of the financial statements, and revenues and expenses during the period reported. Actual results could differ materially from those estimates. We have identified our investment valuation process as our most critical accounting policy.
Investment Valuation
The most significant estimate inherent in the preparation of our Condensed Consolidated Financial Statements is the valuation of investments and the related amounts of unrealized appreciation and depreciation of investments recorded.
General Valuation Policy: We value our investments in accordance with the requirements of the 1940 Act. As discussed more fully below, we value securities for which market quotations are readily available and reliable at their market value. We value all other securities and assets at fair value as determined in good faith by our Board of Directors.
The Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) 820, “Fair Value Measurements and Disclosures,” defines fair value, establishes a framework for measuring fair value and expands disclosures about assets and liabilities measured at fair value. ASC 820 provides a consistent definition of fair value that focuses on exit price in the principal, or most advantageous, market and prioritizes, within a measurement of fair value, the use of market-based inputs over entity-specific inputs. ASC 820 also establishes the following three-level hierarchy for fair value measurements based upon the transparency of inputs to the valuation of an asset or liability as of the measurement date.
| • | Level 1 —inputs to the valuation methodology are quoted prices (unadjusted) for identical assets or liabilities in active markets; |
| • | Level 2 —inputs to the valuation methodology include quoted prices for similar assets and liabilities in active or inactive markets, and inputs that are observable for the asset or liability, either directly or indirectly, for substantially the full term of the financial instrument. Level 2 inputs are in those markets for which there are few transactions, the prices are not current, little public information exists or instances where prices vary substantially over time or among brokered market makers; and |
| • | Level 3 —inputs to the valuation methodology are unobservable and significant to the fair value measurement. Unobservable inputs are those inputs that reflect the assumptions that market participants would use when pricing the asset or liability and can include our own assumptions, based upon the best available information. |
As of December 31, 2011 and September 30, 2011, all of our investments were valued using Level 3 inputs. See Note 3–Investments in the accompanying notes to our Condensed Consolidated Financial Statements included elsewhere in this report for additional information regarding fair value measurements and our application of ASC 820.
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We use generally accepted valuation techniques to value our portfolio unless we have specific information about the value of an investment to determine otherwise. From time to time we may accept an appraisal of a business in which we hold securities. These appraisals are expensive and occur infrequently, but provide a third-party valuation opinion that may differ in results, techniques and scope used to value our investments. When these specific third-party appraisals are obtained, we would use estimates of value provided by such appraisals and our own assumptions including estimated remaining life, current market yield and interest rate spreads of similar securities, as of the measurement date, to value our investments.
In determining the value of our investments, our Adviser has established an investment valuation policy (the “Policy”). The Policy has been approved by our Board of Directors, and each quarter our Board of Directors reviews whether our Adviser has applied the Policy consistently and votes whether or not to accept the recommended valuation of our investment portfolio.
The Policy, which is summarized below, applies to the following categories of securities:
| • | Publicly traded securities; |
| • | Securities for which a limited market exists; and |
| • | Securities for which no market exists. |
Valuation Methods:
Publicly traded securities: We determine the value of publicly traded securities based on the closing price for the security on the exchange or securities market on which it is listed and primarily traded on the valuation date. To the extent that we own restricted securities that are not freely tradable, but for which a public market otherwise exists, we will use the market value of that security adjusted for any decrease in value resulting from the restrictive feature.
Securities for which a limited market exists: We value securities that are not traded on an established secondary securities market, but for which a limited market for the security exists, such as certain participations in, or assignments of, syndicated loans, at the quoted bid price (which are non-binding). In valuing these assets, we assess trading activity in an asset class, evaluate variances in prices and other market insights to determine if any available quote prices are reliable. If we conclude that quotes based on active markets or trading activity may be relied upon, firm bid prices are requested; however, if a firm bid price is unavailable, we base the value of the security upon the indicative bid price (“IBP”) offered by the respective originating syndication agent’s trading desk, or secondary desk, on or near the valuation date. To the extent that we use the IBP as a basis for valuing the security, our Adviser may take further steps to consider additional information to validate that price in accordance with the Policy.
In the event these limited markets become illiquid to a degree that market prices are no longer readily available, we will value our syndicated loans using alternative methods, such as estimated net present values of the future cash flows or discounted cash flows (“DCF”). The use of a DCF methodology follows that prescribed by ASC 820, which provides guidance on the use of a reporting entity’s own assumptions about future cash flows and risk-adjusted discount rates when relevant observable inputs, such as quotes in active markets, are not available. When relevant observable market data does not exist, the alternative outlined in ASC 820 is the valuation of investments based on DCF. For the purposes of using DCF to provide fair value estimates, we consider multiple inputs such as a risk-adjusted discount rate that incorporates adjustments that market participants would make both for nonperformance and liquidity risks. As such, we developed a modified discount rate approach that incorporates risk premiums including, among other things, increased probability of default, or higher loss given default, or increased liquidity risk. The DCF valuations applied to the syndicated loans provide an estimate of what we believe a market participant would pay to purchase a syndicated loan in an active market, thereby establishing a fair value. We apply the DCF methodology in illiquid markets until quoted prices are available or are deemed reliable based on trading activity.
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As of December 31, 2011 and September 30, 2011, we determined that the indicative bid prices were reliable indicators of fair value for our syndicated investments. However, because of the private nature of this marketplace (meaning actual transactions are not publicly-reported), we determined that these valuation inputs were classified as Level 3 within the fair value hierarchy as defined in ASC 820.
Securities for which no market exists: The valuation methodology for securities for which no market exists falls into four categories: (1) portfolio investments comprised solely of debt securities; (2) portfolio investments in controlled companies comprised of a bundle of securities, which can include debt and equity securities; (3) portfolio investments in non-controlled companies comprised of a bundle of investments, which can include debt and equity securities; and (4) portfolio investments comprised of non-publicly traded non-control equity securities of other funds.
| (1) | Portfolio investments comprised solely of debt securities: Debt securities that are not publicly traded on an established securities market, or for which a limited market does not exist (“Non-Public Debt Securities”), and that are issued by portfolio companies in which we have no equity or equity-like securities, are fair valued in accordance with the terms of the policy, which utilizes opinions of value submitted to us by Standard & Poor’s Securities Evaluations, Inc. (“SPSE”). We may also submit paid-in-kind (“PIK”) interest to SPSE for their evaluation when it is determined that PIK interest is likely to be received. |
In the case of Non-Public Debt Securities, we have engaged SPSE to submit opinions of value for our debt securities that are issued by portfolio companies in which we own no equity, or equity-like securities. SPSE’s opinions of value are based on the valuations prepared by our portfolio management team, as described below. We request that SPSE also evaluate and assign values to success fees when we determine that there is a reasonable probability of receiving a success fee on a given loan. SPSE will only evaluate the debt portion of our investments for which we specifically request evaluation and may decline to make requested evaluations for any reason, at its sole discretion. Upon completing our collection of data with respect to the investments (which may include the information described below under “—Credit Information,” the risk ratings of the loans described below under “—Loan Grading and Risk Rating” and the factors described hereunder), this valuation data is forwarded to SPSE for review and analysis. SPSE makes its independent assessment of the data that we have assembled and assesses its independent data to form an opinion as to what they consider to be the market values for the securities. With regard to its work, SPSE has issued the following paragraph:
SPSE provides evaluated price opinions which are reflective of what SPSE believes the bid side of the market would be for each loan after careful review and analysis of descriptive, market and credit information. Each price reflects SPSE’s best judgment based upon careful examination of a variety of market factors. Because of fluctuation in the market and in other factors beyond its control, SPSE cannot guarantee these evaluations. The evaluations reflect the market prices, or estimates thereof, on the date specified. The prices are based on comparable market prices for similar securities. Market information has been obtained from reputable secondary market sources. Although these sources are considered reliable, SPSE cannot guarantee their accuracy.
SPSE opinions of the value of our debt securities that are issued by portfolio companies in which we do not own equity, or equity-like securities, are submitted to our Board of Directors along with our Adviser’s supplemental assessment and recommendation regarding valuation of each of these investments. Our Adviser generally accepts the opinion of value given by SPSE; however, in certain limited circumstances, such as when our Adviser may learn new information regarding an investment between the time of submission to SPSE and the date of our Board of Directors’ assessment, our Adviser’s conclusions as to value may differ from the opinion of value delivered by SPSE. Our Board of Directors then reviews whether our Adviser has followed its established procedures for determinations of fair value and votes to accept or reject the recommended valuation of our investment portfolio. Our Adviser and our management recommended, and our Board of Directors voted to accept, the opinions of value delivered by SPSE on the loans in our portfolio as denoted on our accompanying Condensed Consolidated Schedule of Investments.
Because there is a delay between when we close an investment and when the investment can be evaluated by SPSE, new loans are not valued immediately by SPSE; rather, management makes its own determination about the value of these investments in accordance with our valuation policy using the methods described herein.
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| (2) | Portfolio investments in controlled companies comprised of a bundle of investments, which can include debt and equity securities: The fair value of these investments is determined based on the total enterprise value (“TEV”) of the portfolio company, or issuer, utilizing a liquidity waterfall approach. For Non-Public Debt Securities and equity or equity-like securities (e.g. preferred equity, common equity, or other equity-like securities) that are purchased together as part of a package, where we have control or could gain control through an option or warrant security, both the debt and equity securities of the portfolio investment would exit in the mergers and acquisitions market as the principal market, generally through a sale of the portfolio company. In accordance with ASC 820, we apply the in-use premise of value, which assumes the debt and equity securities are sold together. We continue to use the enterprise value methodology utilizing a liquidity waterfall approach to determine the fair value of these investments under ASC 820 if we have the ability to |
initiate a sale of a portfolio company as of the measurement date. Under this approach, we first calculate the total enterprise value of the issuer by incorporating some or all of the following factors:
| • | the issuer’s ability to make payments; |
| • | the earnings of the issuer; |
| • | recent sales to third parties of similar securities; |
| • | the comparison to publicly traded securities; and |
| • | DCF or other pertinent factors. |
In gathering the sales to third parties of similar securities, we may gather and analyze industry statistics and use outside experts. TEV is only an estimate of value and may not be the value received in an actual sale. Once we have estimated the TEV of the issuer, we subtract the value of all the debt securities of the issuer, which are valued at the contractual principal balance. Fair values of these debt securities are discounted for any shortfall of TEV over the total debt outstanding for the issuer. Once the values for all outstanding senior securities (which include the debt securities) have been subtracted from the TEV of the issuer, the remaining amount, if any, is used to determine the value of the issuer’s equity or equity like securities. If, in our Adviser’s judgment, the liquidity waterfall approach does not accurately reflect the value of the debt component, our Adviser may recommend that we use a valuation by SPSE, or if that is unavailable, a DCF valuation technique.
| (3) | Portfolio investments in non-controlled companies comprised of a bundle of investments, which can include debt and equity securities: We value Non-Public Debt Securities that are purchased together with equity or equity-like securities from the same portfolio company, or issuer, for which we do not control or cannot gain control as of the measurement date, using a hypothetical secondary market as our principal market. In accordance with ASC 820, we determine the fair value of these debt securities of non-control investments assuming the sale of an individual debt security using the in-exchange premise of value. As such, we estimate the fair value of the debt component using estimates of value provided by SPSE and our own assumptions in the absence of observable market data, including synthetic credit ratings, estimated remaining life, current market yield and interest rate spreads of similar securities as of the measurement date. For equity or equity-like securities of investments for which we do not control or cannot gain control as of the measurement date, we estimate the fair value of the equity using the in-exchange premise of value based on factors such as the overall value of the issuer, the relative fair value of other units of account including debt, or other relative value approaches. Consideration also is given to capital structure and other contractual obligations that may impact the fair value of the equity. Furthermore, we may utilize comparable values of similar companies, recent investments and indices with similar structures and risk characteristics or DCF valuation techniques and, in the absence of other observable market data, our own assumptions. |
| (4) | Portfolio investments comprised of non-publicly traded non-control equity securities of other funds: We value any uninvested capital of the non-control fund at par value and value any invested capital at the value provided by the non-control fund. |
Due to the uncertainty inherent in the valuation process, such estimates of fair value may differ significantly and materially from the values that would have been obtained had a ready market for the securities existed.
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Additionally, changes in the market environment and other events that may occur over the life of the investments may cause the gains or losses ultimately realized on these investments to be different than the valuations currently assigned. There is no single standard for determining fair value in good faith, as fair value depends upon circumstances of each individual case. In general, fair value is the amount that we might reasonably expect to receive upon the current sale of the security in an arms-length transaction in the security’s principal market.
Valuation Considerations: From time to time, depending on certain circumstances, the Adviser may use the following valuation considerations, including but not limited to:
| • | the nature and realizable value of the collateral; |
| • | the portfolio company’s earnings and cash flows and its ability to make payments on its obligations; |
| • | the markets in which the portfolio company does business; |
| • | the comparison to publicly traded companies; and |
| • | DCF and other relevant factors. |
Because such valuations, particularly valuations of private securities and private companies, are not susceptible to precise determination, may fluctuate over short periods of time, and may be based on estimates, our determinations of fair value may differ from the values that might have actually resulted had a readily available market for these securities been available.
Credit Information: Our Adviser monitors a wide variety of key credit statistics that provide information regarding our portfolio companies to help us assess credit quality and portfolio performance. We and our Adviser participate in the periodic board meetings of our portfolio companies in which we hold Control and Affiliate investments and also require them to provide annual audited and monthly unaudited financial statements. Using these statements or comparable information and board discussions, our Adviser calculates and evaluates the credit statistics.
Loan Grading and Risk Rating: As part of our valuation procedures above, we risk rate all of our investments in debt securities. For syndicated loans that have been rated by a Nationally Recognized Statistical Rating Organization (“NRSRO”), we use the NRSRO’s risk rating for such security. For all other debt securities, we use a proprietary risk rating system. Our risk rating system uses a scale of 0 to 10, with 10 being the lowest probability of default. This system is used to estimate the probability of default on debt securities and the probability of loss if there is a default. These types of systems are referred to as risk rating systems and are used by banks and rating agencies. The risk rating system covers both qualitative and quantitative aspects of the business and the securities we hold.
For the debt securities for which we do not use a third-party NRSRO risk rating, we seek to have our risk rating system mirror the risk rating systems of major risk rating organizations, such as those provided by an NRSRO. While we seek to mirror the NRSRO systems, we cannot provide any assurance that our risk rating system will provide the same risk rating as an NRSRO for these securities. The following chart is an estimate of the relationship of our risk rating system to the designations used by two NRSROs as they risk rate debt securities of major companies. Because our system rates debt securities of companies that are unrated by any NRSRO, there can be no assurance that the correlation to the NRSRO set out below is accurate. We believe our risk rating would be significantly higher than a typical NRSRO risk rating because the risk rating of the typical NRSRO is designed for larger businesses. However, our risk rating has been designed to risk rate the securities of smaller businesses that are not rated by a typical NRSRO. Therefore, when we use our risk rating on larger business securities, the risk rating is higher than a typical NRSRO rating. The primary difference between our risk rating and the rating of a typical NRSRO is that our risk rating uses more quantitative determinants and includes qualitative determinants that we believe are not used in the NRSRO rating. It is our understanding that most debt securities of medium-sized companies do not exceed the grade of BBB on an NRSRO scale, so there would be no debt securities in the middle market that would meet the definition of AAA, AA or A. Therefore, our scale begins with the designation >10 as the best risk rating which may be equivalent to a BBB from an NRSRO; however, no assurance can be given that a >10 on our scale is equal to a BBB or Baa2 on an NRSRO scale.
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| Company’s |
First |
Second |
Gladstone Capital’s Description(A) | |||
| >10 | Baa2 | BBB | Probability of Default (PD) during the next ten years is 4% and the Expected Loss upon Default (EL) is 1% or less | |||
| 10 | Baa3 | BBB- | PD is 5% and the EL is 1% to 2% | |||
| 9 | Ba1 | BB+ | PD is 10% and the EL is 2% to 3% | |||
| 8 | Ba2 | BB | PD is 16% and the EL is 3% to 4% | |||
| 7 | Ba3 | BB- | PD is 17.8% and the EL is 4% to 5% | |||
| 6 | B1 | B+ | PD is 22% and the EL is 5% to 6.5% | |||
| 5 | B2 | B | PD is 25% and the EL is 6.5% to 8% | |||
| 4 | B3 | B- | PD is 27% and the EL is 8% to 10% | |||
| 3 | Caa1 | CCC+ | PD is 30% and the EL is 10% to 13.3% | |||
| 2 | Caa2 | CCC | PD is 35% and the EL is 13.3% to 16.7% | |||
| 1 | Caa3 | CC | PD is 65% and the EL is 16.7% to 20% | |||
| 0 | N/A | D | PD is 85% or there is a payment default and the EL is greater than 20% |
| (A) | The default rates set forth are for a ten year term debt security. If a debt security is less than ten years, then the probability of default is adjusted to a lower percentage for the shorter period, which may move the security higher on our risk rating scale. |
The above scale gives an indication of the probability of default and the magnitude of the loss if there is a default. Generally, our policy is to stop accruing interest on an investment if we determine that interest is no longer collectable. At December 31, 2011, six investments were on non-accrual with an aggregate cost basis of approximately $28.8 million, or 8.0% of the cost basis of all debt investments in our portfolio, and an aggregate fair value of approximately $3.2 million, or 1.1% of the fair value of all debt investments in our portfolio. At September 30, 2011, eight were on non-accrual with an aggregate cost basis of approximately $41.1 million, or 11.0% of the cost basis of all debt investments in our portfolio, and an aggregate fair value of approximately $5.3 million, or 1.8% of the fair value of all debt investments in our portfolio. Additionally, we do not risk rate our equity securities.
The following table lists the risk ratings for all non-syndicated loans in our portfolio at December 31, 2011, September 30, 2011 and September 30, 2010, representing approximately 70%, 70% and 94%, respectively, of all loans in our portfolio at fair value at the end of each period:
| Rating |
December 31, 2011 |
Sept. 30, 2011 |
Sept. 30, 2010 |
|||||||||
| Highest |
10.0 | 9.0 | 10.0 | |||||||||
| Average |
5.2 | 5.5 | 6.1 | |||||||||
| Weighted Average |
6.1 | 5.9 | 5.7 | |||||||||
| Lowest |
1.0 | 1.0 | 1.0 | |||||||||
The following table lists the risk ratings for all syndicated loans in our portfolio that were not rated by an NRSRO at December 31, 2011, September 30, 2011 and September 30, 2010, representing approximately 12%, 6% and 2%, respectively, of all loans in our portfolio at fair value at the end of each period:
| Rating |
December 31, 2011 |
Sept. 30, 2011 |
Sept. 30, 2010 |
|||||||||
| Highest |
7.0 | 7.0 | 7.0 | |||||||||
| Average |
4.8 | 5.0 | 7.0 | |||||||||
| Weighted Average |
4.9 | 5.0 | 7.0 | |||||||||
| Lowest |
4.0 | 4.0 | 7.0 | |||||||||
For syndicated loans that are currently rated by an NRSRO, we risk rate such loans in accordance with the risk rating systems of major risk rating organizations, such as those provided by an NRSRO. The following table
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Table of Contents
lists the risk ratings for all syndicated loans in our portfolio that were rated by an NRSRO at December 31, 2011, September 30, 2011 and September 30, 2010, representing approximately 18%, 24% and 4%, respectively, of all loans in our portfolio at the end of each period:
| Rating |
December 31, 2011 |
Sept. 30, 2011 |
Sept. 30, 2010 | |||
| Highest |
B+/B1 | B+/B1 | B+/B2 | |||
| Average |
B/B2 | B/B2 | B+/B2 | |||
| Weighted Average |
B/B2 | B/B2 | B+/B2 | |||
| Lowest |
NR/Caa2 | NR/Caa2 | B2 |
Tax Status
Federal Income Taxes
We intend to continue to qualify for treatment as a RIC under Subtitle A, Chapter 1 of Subchapter M of the Code. As a RIC, we are not subject to federal income tax on the portion of our taxable income and gains distributed to stockholders. To qualify as a RIC, we must meet certain source-of-income, asset diversification and annual distribution requirements. Under the annual distribution requirements, we are required to distribute to stockholders at least 90% of our investment company taxable income, as defined by the Code. Our practice has been to pay out as distributions up to 100% of that amount.
In an effort to limit certain excise taxes imposed on RICs, we generally distribute, during each calendar year, an amount at least equal to the sum of: (1) 98% of our ordinary income for the calendar year, (2) 98.2% of our capital gains in excess of capital losses for the one-year period ending on October 31 of the calendar year, and (3) any ordinary income and net capital gains from preceding years that were not distributed during such years. Under the RIC Modernization Act (the “RIC Act”), we will be permitted to carry forward capital losses incurred in taxable years beginning after September 30, 2011, for an unlimited period. However, any losses incurred during those future taxable years will be required to be utilized prior to the losses incurred in pre-enactment taxable years, which carry an expiration date. As a result of this ordering rule, pre-enactment capital loss carryforwards may be more likely to expire unused. Additionally, post-enactment capital loss carryforwards will retain their character as either short-term or long-term capital losses rather than being considered all short-term as permitted under the previous regulation.
In 2011, we received approval for a change in accounting method from the IRS related to our tax treatment for success fees. As a result, we, in effect, will continue to account for the recognition of income from the success fees upon receipt, or when the amount becomes fixed. However, starting January 1, 2011, the tax characterization of the success fee amount was and will continue to be treated as ordinary income. Prior to January 1, 2011, we had treated the success fee amount as a capital gain for tax characterization purposes. The approved change in accounting method does not require us to retroactively change the capital gains treatment of the success fees received prior to January 1, 2011.
Revenue Recognition
Investment Income Recognition
Interest income, adjusted for amortization of premiums and acquisition costs and for the accretion of discounts, is recorded on an accrual basis to the extent that such amounts are expected to be collected. Generally, when a loan becomes 90 days or more past due or if our qualitative assessment indicates that the debtor is unable to service its debt or other obligations, we will place the loan on non-accrual status and cease recognizing interest income on that loan until the borrower has demonstrated the ability and intent to pay contractual amounts due. However, we remain contractually entitled to this interest. Interest payments received on non-accrual loans may be recognized as income or applied to the cost basis depending upon management’s judgment. Non-accrual loans are restored to accrual status when past due principal and interest is paid and in management’s judgment, are
44
Table of Contents
likely to remain current, or due to a restructuring such that the interest income is deemed to be collectible. As of December 31, 2011, six investments were on non-accrual with an aggregate cost basis of $28.8 million, or 8.0%, of the cost basis of all debt investments in our portfolio, and an aggregate fair value of $3.2 million, or 1.1%, of the fair value of all debt investments in our portfolio. As of September 30, 2011, eight investments were on non-accrual with an aggregate cost basis of $41.1 million, or 11.0%, of the cost basis of all debt investments in our portfolio, and an aggregate fair value of $5.3 million, or 1.8%, of the fair value of all debt investments in our portfolio. As of September 30, 2010, six investments were on non-accrual with an aggregate cost basis of $29.9 million, or 10.2%, of the cost basis of all debt investments in our portfolio, and an aggregate fair value of $8.7 million, or 3.4%, of the fair value of all debt investments in our portfolio.
As of December 31, 2011 and September 30, 2011, we had no loans in our portfolio which contained a PIK provision. As of September 30, 2010, we had one loan in our portfolio which contained a PIK provision. Any PIK interest, computed at the contractual rate specified in each loan agreement, is added to the principal balance of the loan and recorded as income. To maintain our status as a RIC, this non-cash source of income must be paid out to common stockholders in the form of distributions, even though we have not yet collected the cash. We recorded PIK income of $0 and $4 for the three months ended December 31, 2011 and 2010, respectively. We recorded PIK income of $12, $67 and $166 for the years ended September 30, 2011, 2010 and 2009, respectively.
We also transfer past due interest to the principal balance as stipulated in certain loan amendments with portfolio companies. We did not transfer any past due interest to principal balances for either of the three months ended December 31, 2011 or 2010. For the years ended September 30, 2011, 2010 and 2009, we rolled over past due interest to the principal balance of $0.2 million, $1.2 million and $1.5 million, respectively.
As of December 31, 2011, we had 27 OID loans. We recorded OID income of $82 and $25 for the three months ended December 31, 2011 and 2010, respectively. For the years ended September 30, 2011, 2010 and 2009, we recorded OID income of $0.2 million, $21 and $206, respectively. The unamortized balance of OID investments as of December 31, 2011, September 30, 2011 and September 30, 2010 totaled $1.4 million, $1.5 million and $0.3 million, respectively.
Success fees are recorded upon receipt. Success fees are contractually due upon a change of control in a portfolio company and are recorded in other income in our accompanying condensed consolidated statements of operations. We did not record any success fees during the three months ended December 31, 2011. We recorded $0.2 million of success fees during the three months ended December 31, 2010, which resulted from the exit and payoff of Interfilm Holdings, Inc. For the years ended September 30, 2011, 2010 and 2009, we recorded success fees of $1.0 million, $1.9 million and $0.4 million, respectively.
RESULTS OF OPERATIONS
COMPARISON OF THE THREE MONTHS ENDED DECEMBER 31, 2011 TO THE THREE MONTHS ENDED DECEMBER 31, 2010
A comparison of our operating results for the three months ended December 31, 2011 and 2010 is below:
| For the Three Months Ended December 31, | ||||||||||||||||
| 2011 | 2010 | $ Change | % Change | |||||||||||||
| INVESTMENT INCOME |
||||||||||||||||
| Interest income |
$ | 9,320 | $ | 7,845 | $ | 1,475 | 18.8 | % | ||||||||
| Other income |
— | 161 | (161 | ) | (100.0 | ) | ||||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| Total investment income |
9,320 | 8,006 | 1,314 | 16.4 | ||||||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| EXPENSES |
||||||||||||||||
| Loan servicing fee and base management fees |
1,556 | 1,347 | 209 | 15.5 | ||||||||||||
| Incentive fee |
1,035 | 1,159 | (124 | ) | (10.7 | ) | ||||||||||
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Table of Contents
| For the Three Months Ended December 31, | ||||||||||||||||
| 2011 | 2010 | $ Change | % Change | |||||||||||||
| Administration fee |
195 | 186 | 9 | 4.8 | ||||||||||||
| Interest expense |
1,139 | (120 | ) | 1,259 | NM | |||||||||||
| Dividend expense on mandatorily redeemable stock |
434 | — | 434 | 100.0 | ||||||||||||
| Amortization of deferred financing fees |
457 | 297 | 160 | 53.9 | ||||||||||||
| Professional fees |
292 | 332 | (40 | ) | (12.0 | ) | ||||||||||
| Other expenses |
244 | 220 | 24 | 10.9 | ||||||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| Expenses before credits from Adviser |
5,352 | 3,421 | 1,931 | 56.4 | ||||||||||||
| Credits to fees from Adviser |
(450 | ) | (52 | ) | (398 | ) | 765.4 | |||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| Total expenses net of credits to fees from Adviser |
4,902 | 3,369 | 1,533 | 45.5 | ||||||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| NET INVESTMENT INCOME |
4,418 | 4,637 | (219 | ) | (4.7 | ) | ||||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| REALIZED AND UNREALIZED (LOSS) GAIN ON: |
||||||||||||||||
| Net realized loss on investments |
(8,249 | ) | — | (8,249 | ) | (100.0 | ) | |||||||||
| Net unrealized appreciation (depreciation) on investments |
2,243 | (2,944 | ) | 5,187 | NM | |||||||||||
| Net unrealized appreciation on borrowings |
299 | 439 | (140 | ) | (31.9 | ) | ||||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| Net loss on investments and borrowings |
(5,707 | ) | (2,505 | ) | (3,202 | ) | 127.8 | |||||||||
| NET (DECREASE) INCREASE IN NET ASSETS RESULTING FROM OPERATIONS |
$ | (1,289 | ) | $ | 2,132 | $ | (3,421 | ) | NM | % | ||||||
|
|
|
|
|
|
|
|
|
|||||||||
NM = Not Meaningful
Investment Income
Interest income from our investments in debt securities increased for the three months ended December 31, 2011 by 18.8%, as compared to the three months ended December 31, 2010, for several reasons, but primarily due to the increased investment activity during the second half of fiscal year 2011, partially offset by a decline in our weighted average yield when comparing the quarter ended December 31, 2011 to the prior year quarter. The increase in investment activity was primarily in the syndicated investments, which increased from 7 investments as of December 31, 2010 to 24 investments as of December 31, 2011. The level of interest income from investments is directly related to the principal balance of the interest-bearing investment portfolio outstanding during the period multiplied by the weighted average yield. The weighted average principal balance of our interest-bearing investment portfolio during the quarter ended December 31, 2011 was $337.9 million, compared to $268.6 million for the prior year quarter. The annualized weighted average yield on our interest-bearing investment portfolio for the three months ended December 31, 2011 was 10.9%, compared to 11.4% for the prior year period. The weighted average yield varies from period to period based on the current stated interest rate on interest-bearing investments. The decrease in the weighted average yield on our portfolio for the quarter ended December 31, 2011 resulted primarily from the purchase of syndicated loans, which generally bear lower interest rates than our existing proprietary debt investments and the restructuring of our debt investments in Sunshine to lower interest rates. During the three months ended December 31, 2011, six investments were on non-accrual, for an aggregate of $28.8 million at cost, or 8.0% of the aggregate cost of our debt investment portfolio, and during the prior year period, six investments were on non-accrual, for an aggregate of $30.4 million at cost, or 10.4% of the aggregate cost of our debt investment portfolio.
Other income for the three months ended December 31, 2010 consisted of $0.2 million in success fees from our exit in Interfilm Holdings. There were no such fees for the three months ended December 31, 2011.
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The following tables list the investment income from investments in our five largest portfolio company investments at fair value during the respective periods:
| As of December 31, 2011 | Three Months Ended December 31, 2011 | |||||||||||||||
| Company |
Fair Value | % of Portfolio | Investment Income |
% of Total Revenues | ||||||||||||
| Reliable Biopharmaceutical Holdings, Inc. |
$ | 25,670 | 8.8 | % | $ | 785 | 8.4 | % | ||||||||
| Westlake Hardware, Inc. |
19,415 | 6.6 | 652 | 7.0 | ||||||||||||
| Midwest Metal Distribution, Inc. |
17,641 | 6.0 | 565 | 6.1 | ||||||||||||
| Defiance Integrated Technologies, Inc. |
16,106 | 5.5 | 209 | 2.2 | ||||||||||||
| CMI Acquisition, LLC |
14,354 | 4.9 | 493 | 5.3 | ||||||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| Subtotal—five largest investments |
93,186 | 31.8 | 2,704 | 29.0 | ||||||||||||
| Other portfolio companies |
199,660 | 68.2 | 6,543 | 70.2 | ||||||||||||
| Other non-portfolio company revenue |
— | — | 73 | 0.8 | ||||||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| Total investment portfolio |
$ | 292,846 | 100.0 | % | $ | 9,320 | 100.0 | % | ||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| As of December 31, 2010 | Three Months Ended December 31, 2010 | |||||||||||||||
| Company |
Fair Value | % of Portfolio | Investment Income |
% of Total Revenues | ||||||||||||
| Reliable Biopharmaceutical Holding Inc. |
$ | 26,961 | 10.6 | % | $ | 754 | 9.4 | % | ||||||||
| Sunshine Media Holdings |
22,235 | 8.8 | 872 | 10.9 | ||||||||||||
| Westlake Hardware, Inc. |
19,645 | 7.8 | 652 | 8.1 | ||||||||||||
| Midwest Metal Distribution, Inc. |
15,813 | 6.3 | 565 | 7.1 | ||||||||||||
| Defiance Integrated Technologies, Inc. |
12,757 | 5.1 | 232 | 2.9 | ||||||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| Subtotal—five largest investments |
97,411 | 38.6 | 3,075 | 38.4 | ||||||||||||
| Other portfolio companies |
155,094 | 61.4 | 4,809 | 60.1 | ||||||||||||
| Other non-portfolio company revenue |
— | — | 122 | 1.5 | ||||||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| Total investment portfolio |
$ | 252,505 | 100.0 | % | $ | 8,006 | 100.0 | % | ||||||||
|
|
|
|
|
|
|
|
|
|||||||||
Operating Expenses
Operating expenses, net of credits to fees from the Adviser, increased for the three months ended December 31, 2011 by 45.5%, as compared to the prior year period. This increase was primarily due to an increase in interest expense on our Credit Facility when comparing the quarter ended December 31, 2011 to the prior year quarter. In addition, we made our first preferred stock distributions in December 2011 of $0.4 million and also began amortizing the deferred financing fees incurred in connection with the Series 2016 Term Preferred Stock offering, which amortization totaled $0.1 million, during the quarter ended December 31, 2011.
Interest expense increased for the three months ended December 31, 2011, as compared to the prior year period due primarily to increased borrowings under our Credit Facility to facilitate the increased investment activity during the three months ended December 31, 2011, as compared to the prior year period. In addition, there was a reversal of $0.6 million in minimum earnings shortfall fees during the three months ended December 31, 2010 related to an amendment to our Credit Facility during the first quarter of fiscal year 2011. The weighted average balance outstanding on our Credit Facility during the quarter ended December 31, 2011 was approximately $74.3 million, as compared to $19.9 million in the prior year period, an increase of 273.4%.
As described above, during the three months ended December 31, 2011, we paid $0.4 million of dividends on our newly issued Series 2016 Term Preferred Stock, representing the dividends that accrued during the portion of the quarter during which the shares were outstanding. We classify these dividends as dividend expense on our Condensed Consolidated Statements of Operations. For future quarters, we expect these dividends to be approximately $0.7 million per quarter. There were no preferred stock dividends paid in the period year quarter.
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The gross base management fee (which is net of loan servicing fees) increased for the three months ended December 31, 2011, as compared to the prior year period, primarily because the greater amount of total assets that we held increased the gross base management fee. Due to increased syndicated loan holdings, there was an increase in the fee reduction for the voluntary, irrevocable waiver of the 2.0% fee on senior syndicated loans to 0.5% per annum, when compared to the prior year period. An incentive fee was earned by the Adviser during the three months ended December 31, 2011, due primarily to increased interest income. However, the incentive fee was partially waived by the Adviser to ensure distributions to stockholders are covered entirely by net investment income.
The base management and incentive fees are computed quarterly, as described under “Investment Advisory and Management Agreement” in Note 4 of the notes to the accompanying Condensed Consolidated Financial Statements and are summarized in the following table:
| Three Months Ended December 31, | ||||||||
| 2011 | 2010 | |||||||
| Average total assets subject to base management fee (A) |
$ | 311,200 | $ | 269,408 | ||||
| Multiplied by prorated annual base management fee of 2.0% |
0.5 | % | 0.5 | % | ||||
|
|
|
|
|
|||||
| Gross base management fee |
$ | 1,556 | $ | 1,347 | ||||
| Reduction for loan servicing fees (B) |
(959 | ) | (842 | ) | ||||
|
|
|
|
|
|||||
| Base management fee (B) |
597 | 505 | ||||||
| Credit for fees received by Adviser from the portfolio companies |
(47 | ) | — | |||||
| Fee reduction for the voluntary, irrevocable waiver of 2.0% fee on senior syndicated loans to 0.5% per annum |
(125 | ) | (52 | ) | ||||
|
|
|
|
|
|||||
| Net base management fee |
$ | 425 | $ | 453 | ||||
|
|
|
|
|
|||||
| Incentive fee (B) |
1,035 | 1,159 | ||||||
| Credit from voluntary, irrevocable waiver issued by Adviser’s board of directors |
(278 | ) | — | |||||
|
|
|
|
|
|||||
| Net incentive fee |
$ | 757 | $ | 1,159 | ||||
|
|
|
|
|
|||||
| Credit for fees received by Adviser from the portfolio companies |
(47 | ) | — | |||||
| Fee reduction for the voluntary, irrevocable waiver of 2.0% fee on senior syndicated loans to 0.5% per annum |
(125 | ) | (52 | ) | ||||
| Incentive fee credit |
(278 | ) | — | |||||
|
|
|
|
|
|||||
| Credit to base management and incentive fees from Adviser (B) |
$ | (450 | ) | $ | (52 | ) | ||
|
|
|
|
|
|||||
| (A) | Average total assets subject to the base management fee is defined as total assets, including investments made with proceeds of borrowings, less any uninvested cash and cash equivalents resulting from borrowings, valued at the end of the applicable quarters within the respective periods and appropriately adjusted for any share issuances or repurchases during the periods. |
| (B) | Reflected as a line item on the Condensed Consolidated Statements of Operations. |
Realized and Unrealized Gains (Losses) on Investments
Realized Loss
For the three months ended December 31, 2011, we recorded a net realized loss on investments of $8.2 million, which primarily consisted of a realized loss of $1.0 million due to the restructure of KMBQ and a realized loss of $7.4 million related to the sale of Newhall. In addition, we recognized $0.2 million of realized gains in the three months ended December 31, 2011 upon our receipt of escrowed proceeds in connection with our exit in fiscal year 2010 of our investment in ACE Expeditors, Inc. There were no realized gains or losses for the three months ended December 31, 2010.
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Table of Contents
Unrealized Appreciation and Depreciation
Net unrealized appreciation (depreciation) on investments is the net change in the fair value of our investment portfolio during the reporting period, including the reversal of previously-recorded unrealized appreciation or depreciation when gains and losses are actually realized. During the quarter ended December 31, 2011, we recorded net unrealized appreciation on investments in the aggregate amount of $2.2 million. During the prior year period ended December 31, 2010, we recorded net unrealized depreciation on investments in the aggregate amount of $2.9 million.
The realized losses and unrealized appreciation (depreciation) across our investments for the three months ended December 31, 2011 were as follows:
| Three Months Ended December 31, 2011 | ||||||||||||||||
| Portfolio Company |
Realized (Loss) Gain |
Unrealized Appreciation (Depreciation) |
Reversal of Unrealized Depreciation |
Net Gain (Loss) |
||||||||||||
| Newhall Holdings, Inc. |
$ | (7,356 | ) | $ | — | $ | 9,978 | $ | 2,622 | |||||||
| Defiance Integrated Technologies, Inc. |
— | 1,146 | — | 1,146 | ||||||||||||
| Midwest Metal Distribution, Inc. |
— | 455 | — | 455 | ||||||||||||
| Northern Contours, Inc. |
— | — | 444 | 444 | ||||||||||||
| Global Materials Technologies, Inc. |
— | 422 | — | 422 | ||||||||||||
| KMBQ Corporation |
(1,044 | ) | — | 1,135 | 91 | |||||||||||
| Legend Communications of Wyoming LLC |
— | (414 | ) | — | (414 | ) | ||||||||||
| Lindmark Acquisitions |
— | (417 | ) | — | (417 | ) | ||||||||||
| Precision Acquisition Group Holdings, Inc. |
— | (551 | ) | — | (551 | ) | ||||||||||
| Sunburst Media – Louisiana, LLC |
— | (562 | ) | — | (562 | ) | ||||||||||
| International Junior Golf Training Acquisition Company |
— | (607 | ) | — | (607 | ) | ||||||||||
| BAS Broadcasting |
— | (1,008 | ) | — | (1,008 | ) | ||||||||||
| Viapack, Inc. |
— | (1,180 | ) | — | (1,180 | ) | ||||||||||
| GFRC Holdings LLC |
— | (2,250 | ) | — | (2,250 | ) | ||||||||||
| Sunshine Media Holdings |
— | (4,015 | ) | — | (4,015 | ) | ||||||||||
| Other, net (<$250) |
151 | (333 | ) | — | (182 | ) | ||||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| Total: |
$ | (8,249 | ) | $ | (9,314 | ) | $ | 11,557 | $ | (6,006 | ) | |||||
|
|
|
|
|
|
|
|
|
|||||||||
The largest driver in our net unrealized appreciation for the three months ended December 31, 2011 was the reversal of the Newhall unrealized depreciation of $10.0 million as a result of the sale, offset by the $4.0 million and $2.3 million of unrealized depreciation on Sunshine and GFRC Holdings LLC, respectively, which were primarily both due to diminished portfolio company performance.
The net unrealized appreciation (depreciation) across our investments for the three months ended December 31, 2010, were as follows:
| Three Months Ended December 31, 2010 | ||||||||||||||||
| Portfolio Company |
Realized Gain (Loss) |
Net Unrealized Appreciation (Depreciation) |
Reversal of Unrealized Depreciation (Appreciation) |
Net Gain (Loss) |
||||||||||||
| Defiance Integrated Technologies, Inc. |
$ | — | $ | 2,969 | $ | — | $ | 2,969 | ||||||||
| Puerto Rico Cable Acquisition Company, Inc. |
— | — | 732 | 732 | ||||||||||||
| Midwest Metal Distribution, Inc. |
— | 272 | — | 272 | ||||||||||||
| Global Brass & Cooper, Inc. |
— | 263 | — | 263 | ||||||||||||
| Reliable Biopharmaceutical Holdings, Inc. |
— | 250 | — | 250 | ||||||||||||
| GFRC Holdings LLC |
— | (406 | ) | — | (406 | ) | ||||||||||
49
Table of Contents
| Three Months Ended December 31, 2010 | ||||||||||||||||
| Portfolio Company |
Realized Gain (Loss) |
Net Unrealized Appreciation (Depreciation) |
Reversal of Unrealized Depreciation (Appreciation) |
Net Gain (Loss) |
||||||||||||
| Lindmark Acquisitions |
— | (1,051 | ) | — | (1,051 | ) | ||||||||||
| Sunshine Media Holdings |
— | (5,450 | ) | — | (5,450 | ) | ||||||||||
| Other, net (<$250) |
— | (295 | ) | (228 | ) | (523 | ) | |||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| Total: |
$ | — | $ | (3,448 | ) | $ | 504 | $ | (2,944 | ) | ||||||
|
|
|
|
|
|
|
|
|
|||||||||
For the three months ended December 31, 2010, the largest driver in our net unrealized depreciation on investments was the $5.4 million in unrealized depreciation on the investment in Sunshine which was primarily due to diminished portfolio company performance. This was offset by the notable appreciation of $3.0 million on our investment in Defiance Integrated Technologies, Inc. which was primarily due to increased portfolio company performance, and the reversal of $0.7 million of unrealized depreciation on our investment in Puerto Rico Cable Acquisition Company, Inc., which was paid off early at par during the three months ended December 31, 2010.
Over our entire investment portfolio, we recorded an aggregate of approximately $1.4 million and $0.8 million of net unrealized appreciation on our debt and equity positions, respectively, for the three months ended December 31, 2011. At December 31, 2011, the fair value of our investment portfolio was less than its cost basis by approximately $77.6 million, and our entire investment portfolio was valued at 79.0% of cost, as compared to cumulative net unrealized depreciation of $79.9 million, and a valuation of our entire portfolio at 79.1% of cost, at September 30, 2011, representing net unrealized appreciation of $2.2 million for the three months ended December 31, 2011. Over our entire investment portfolio, we recorded an aggregate of $5.6 million of net unrealized depreciation on our debt positions for the three months ended December 31, 2010, while our equity holdings experienced an aggregate of approximately $2.7 million of net unrealized appreciation. We believe that our aggregate investment portfolio was valued at a depreciated value as of December 31, 2011 due primarily to the general instability of the loan markets and lingering effects of the recent recession on the performances of certain of our portfolio companies. The cumulative net unrealized depreciation of our investments does not have an impact on our current ability to pay distributions to stockholders; however, it may be an indication of future realized losses, which could ultimately reduce our income available for distribution to stockholders.
Net Unrealized Depreciation on Borrowings
Net unrealized depreciation on borrowings is the net change in the fair value of our Credit Facility during the reporting period, including the reversal of previously recorded unrealized appreciation or depreciation when gains and losses are realized. The net unrealized depreciation on our Credit Facility for the three months ended December 31, 2011 and 2010 was $0.3 million and $0.4 million, respectively. The Credit Facility was fair valued at $57.2 million and $100.0 million as of December 31 and September 30, 2011, respectively.
Net (Decrease) Increase in Net Assets Resulting from Operations
For the three months ended December 31, 2011, we realized a net decrease in net assets resulting from operations of $1.3 million as a result of the factors discussed above. For the three months ended December 31, 2010, we realized a net increase in net assets resulting from operations of $2.1 million. Our net (decrease) increase in net assets resulting from operations per basic and diluted weighted average common share for the three months ended December 31, 2011 and 2010 were $(0.06) and $0.10, respectively.
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COMPARISON OF THE FISCAL YEARS ENDED SEPTEMBER 30, 2011 AND 2010
A comparison of our operating results for the fiscal years ended September 30, 2011 and 2010 is below:
| Year Ended September 30, | ||||||||||||||||
| 2011 | 2010 | $ Change | % Change | |||||||||||||
| INVESTMENT INCOME |
||||||||||||||||
| Interest income |
$ | 33,068 | $ | 33,021 | $ | 47 | 0.1 | % | ||||||||
| Other income |
2,143 | 2,518 | (375 | ) | (14.9 | ) | ||||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| Total investment income |
35,211 | 35,539 | (328 | ) | (0.9 | ) | ||||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| EXPENSES |
||||||||||||||||
| Loan servicing fee |
3,355 | 3,412 | (57 | ) | (1.7 | ) | ||||||||||
| Base management fee |
2,376 | 2,673 | (297 | ) | (11.1 | ) | ||||||||||
| Incentive fee |
4,598 | 1,823 | 2,775 | 152.2 | ||||||||||||
| Administration fee |
729 | 807 | (78 | ) | (9.7 | ) | ||||||||||
| Interest expense |
2,676 | 4,390 | (1,714 | ) | (39.0 | ) | ||||||||||
| Amortization of deferred financing fees |
1,420 | 1,490 | (70 | ) | (4.7 | ) | ||||||||||
| Professional fees |
1,118 | 2,101 | (983 | ) | (46.8 | ) | ||||||||||
| Compensation expense |
— | 245 | (245 | ) | NM | |||||||||||
| Other expenses |
1,170 | 1,259 | (89 | ) | (7.1 | ) | ||||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| Expenses before credit from Adviser |
17,442 | 18,200 | (758 | ) | (4.2 | ) | ||||||||||
| Credit to fees from Adviser |
(643 | ) | (420 | ) | (223 | ) | 53.1 | |||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| Total expenses net of credit to credits to fees |
16,799 | 17,780 | (981 | ) | (5.5 | ) | ||||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| NET INVESTMENT INCOME |
18,412 | 17,759 | 653 | 3.7 | ||||||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| REALIZED AND UNREALIZED (LOSS) GAIN ON: |
||||||||||||||||
| Net realized loss on investments |
(1,280 | ) | (2,893 | ) | 1,613 | (55.8 | ) | |||||||||
| Net unrealized (depreciation) appreciation on investments |
(38,759 | ) | 2,317 | (41,076 | ) | NM | ||||||||||
| Net unrealized appreciation (appreciation) on borrowings |
528 | (789 | ) | 1,317 | NM | |||||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| Net loss on investments, derivative and borrowings |
(39,511 | ) | (1,365 | ) | (38,146 | ) | 2,794.6 | |||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| NET (DECREASE) INCREASE IN NET ASSETS RESULTING FROM OPERATIONS |
$ | (21,099 | ) | $ | 16,394 | $ | (37,493 | ) | NM | % | ||||||
|
|
|
|
|
|
|
|
|
|||||||||
NM = Not Meaningful
Investment Income
Investment income for the year ended September 30, 2011 was $35.2 million as compared to $35.5 million for the year ended September 30, 2010. Interest income from our aggregate investment portfolio remained relatively unchanged year over year, although the last half of 2011 showed significant increases in interest income over the first half of 2011 due to the large number of new investments we made in the second half of fiscal 2011. The level of interest income from investments is directly related to the balance, at cost, of the interest-bearing investment portfolio outstanding during the year multiplied by the weighted average yield. The weighted average cost basis of our interest-bearing investment portfolio during the year ended September 30, 2011 was approximately $292.9 million, compared to approximately $300.5 million for the prior year. We had a net increase of two portfolio companies with investments on non-accrual status as of September 30, 2011, as compared to September 30, 2010. As of September 30, 2011, eight investments were on non-accrual, for an aggregate of approximately $41.1 million at cost, or 11.0% of the cost basis of all debt investments in our
51
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portfolio. As of September 30, 2010, six investments were on non-accrual, for an aggregate of approximately $29.9 million at cost, or 10.2% of the cost basis of all debt investments in our portfolio.
The weighted average yield varies from year to year based on the current stated interest rate of interest-bearing investments. The weighted average yield was 11.2% for the year ended September 30, 2011 as compared to 10.9% for the prior year. The increase in the weighted average yield on our portfolio for the year ended September 30, 2011 resulted primarily from the repayment of loans with lower stated interest rates and the restructuring of certain loans into higher interest rate loans, partially offset by the purchase of syndicated loans, which generally bear lower interest rates than our existing proprietary debt investments.
Interest income from loans to certain employees of our Adviser, in connection with the exercise of employee stock options, decreased slightly, primarily as a result of significant repayments on the principal amounts in 2011. These decreases were offset almost entirely by increases in the interest rates on the loans due to the fact that certain significant loans were in default, triggering penalty interest provisions for all of fiscal 2011.
Other income decreased for the year ended September 30, 2011 as compared to the prior year, mainly due to decreases in success fees, which we recognize when payment is received. Success fees earned during the year ended September 30, 2011 totaled $1.0 million, which we received primarily from Interfilm Holdings, Inc. and Pinnacle Treatment Centers, Inc. for actual exits in 2011, and also from Westlake Hardware, Inc. as a prepaid success fee. In addition, we received $0.6 million from US Healthcare Communications, Inc. as a legal settlement in March 2011 that was recorded in other income. Success fees earned during the year ended September 30, 2010 totaled $1.9 million, which we received from ActivStyle Acquisition Co., Anitox Acquisition Co., Doe & Ingalls Management LLC, Tulsa Welding School and Visual Edge Technology, Inc. for actual exits and from Saunders & Associates and Northern Contours, Inc. as prepayments.
The following table lists the investment income for our five largest portfolio company investments at fair value during the respective periods:
| As of September 30, 2011 | Year Ended September 30, 2011 | |||||||||||||||
| Company |
Fair Value | % of Portfolio |
Investment Income |
% of Total Investment Income |
||||||||||||
| Reliable Biopharmaceutical Holdings, Inc. |
$ | 25,295 | 8.3 | % | $ | 3,090 | 8.8 | % | ||||||||
| Westlake Hardware, Inc. |
19,340 | 6.4 | 2,935 | 8.3 | ||||||||||||
| Midwest Metal Distribution, Inc. |
17,184 | 5.7 | 2,242 | 6.4 | ||||||||||||
| Defiance Integrated Technologies, Inc. |
15,039 | 5.0 | 888 | 2.5 | ||||||||||||
| CMI Acquisition, LLC |
14,336 | 4.7 | 1,038 | 3.0 | ||||||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| Subtotal—five largest investments |
91,194 | 30.1 | 10,193 | 29.0 | ||||||||||||
| Other portfolio companies |
211,753 | 69.9 | 24,586 | 69.8 | ||||||||||||
| Other non-portfolio company revenue |
— | — | 432 | 1.2 | ||||||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| Total investment portfolio |
$ | 302,947 | 100.0 | % | $ | 35,211 | 100.0 | % | ||||||||
|
|
|
|
|
|
|
|
|
|||||||||
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Table of Contents
| As of September 30, 2010 | Year Ended September 30, 2010 | |||||||||||||||
| Company |
Fair Value | % of Portfolio |
Investment Income |
% of Total Investment Income |
||||||||||||
| Sunshine Media, Inc. |
$ | 27,286 | 10.6 | % | $ | 3,254 | 9.1 | % | ||||||||
| Reliable Biopharmaceutical Holdings, Inc. |
26,574 | 10.3 | 3,003 | 8.4 | ||||||||||||
| Westlake Hardware, Inc. |
19,620 | 7.6 | 2,940 | 8.3 | ||||||||||||
| Midwest Metal Distribution, Inc. |
15,539 | 6.0 | 2,127 | 6.0 | ||||||||||||
| Winchester Electronics Co. |
12,508 | 4.9 | 1,589 | 4.5 | ||||||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| Subtotal—five largest investments |
101,527 | 39.4 | 12,913 | 36.3 | ||||||||||||
| Other portfolio companies |
155,582 | 60.6 | 22,036 | 62.0 | ||||||||||||
| Other non-portfolio company revenue |
— | — | 590 | 1.7 | ||||||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| Total investment portfolio |
$ | 257,109 | 100.0 | % | $ | 35,539 | 100.0 | % | ||||||||
|
|
|
|
|
|
|
|
|
|||||||||
Operating Expenses
Operating expenses, net of credits from the Adviser for fees earned and voluntary irrevocable and unconditional waivers to the base management and incentive fees, decreased for the year ended September 30, 2011 as compared to the prior year. This reduction was primarily due to a decrease in interest expense incurred in connection with the Credit Facility and a decrease in professional fees, which were partially offset by an increase in the incentive fee.
The net base management fee decreased for the year ended September 30, 2011, as compared to the prior year, due to a decreased gross base management fee resulting from maintaining a smaller investment portfolio on average at fair value and from an increase in the credit we received against the base management fee for investments in senior syndicated loans, which increased in the year ended September 30, 2011. The base management fee is computed quarterly, as described under “Investment Advisory and Management Agreement” in Note 4 of the notes to the accompanying Consolidated Financial Statements, and is summarized in the table below. Incentive fees increased for the year ended September 30, 2011, as compared to the prior year, primarily due to increased pre-incentive fee net investment income. The board of directors of our Adviser voluntarily, irrevocably and unconditionally waived a portion of the incentive fee for each of the years ended September 30, 2011 and 2010.
The base management fee, incentive fee and associated credits are computed quarterly and are summarized in the table below:
| Year Ended September 30, | ||||||||
| 2011 | 2010 | |||||||
| Average total assets subject to base management fee(A) |
$ | 286,550 | $ | 304,250 | ||||
| Multiplied by annual base management fee of 2% |
2.0 | % | 2.0 | % | ||||
|
|
|
|
|
|||||
| Gross base management fee |
5,731 | 6,085 | ||||||
| Reduction for loan servicing fees(B) |
(3,355 | ) | (3,412 | ) | ||||
|
|
|
|
|
|||||
| Base management fee(B) |
$ | 2,376 | $ | 2,673 | ||||
|
|
|
|
|
|||||
| Credits to base management fee from Adviser: |
||||||||
| Fee reduction for the waiver of 2.0% fee on senior syndicated loans to 0.5% |
(3,832 | ) | (423 | ) | ||||
| Credit for fees received by Adviser from the portfolio companies |
(239 | ) | (2133 | ) | ||||
|
|
|
|
|
|||||
| Credit to base management fee from Adviser |
(622 | ) | (255 | ) | ||||
|
|
|
|
|
|||||
| Net base management fee |
$ | 1,754 | $ | 2,418 | ||||
|
|
|
|
|
|||||
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Table of Contents
| Year Ended September 30, | ||||||||
| 2011 | 2010 | |||||||
| Incentive fee(B) |
$ | 4,598 | $ | 1,823 | ||||
| Credit from voluntary, irrevocable waiver issued by Adviser’s board of directors |
(21 | ) | (165 | ) | ||||
|
|
|
|
|
|||||
| Net incentive fee |
$ | 4,577 | $ | 1,658 | ||||
|
|
|
|
|
|||||
| Total credits to fees: |
||||||||
| Fee reduction for the voluntary, irrevocable waiver of 2.0% fee on senior syndicated loans to 0.5% |
$ | (383 | ) | $ | (42 | ) | ||
| Credit for fees received by Adviser from portfolio companies |
(239 | ) | (213 | ) | ||||
| Incentive fee credit |
(21 | ) | (165 | ) | ||||
|
|
|
|
|
|||||
| Credit to base management and incentive fees from Adviser(B) |
$ | (643 | ) | $ | (420 | ) | ||
|
|
|
|
|
|||||
| (A) | Average total assets subject to the base management fee is defined as total assets, including investments made with proceeds of borrowings, less any uninvested cash or cash equivalents resulting from borrowings, valued at the end of the four most recently completed quarters and appropriately adjusted for any share issuances or repurchases during the applicable year. |
| (B) | Reflected, in total, as a line item on the Consolidated Statement of Operations located elsewhere in this report. |
Interest expense decreased for the year ended September 30, 2011, as compared to the prior year, due primarily to decreased borrowing costs under the Credit Facility during the year ended September 30, 2011. The effective interest rate during the year ended September 30, 2011 was 6.0%, compared to an effective interest rate of 7.0% for the year ended September 30, 2010. The weighted average balance outstanding on the Credit Facility increased only slightly year over year from approximately $47.9 million during the year ended September 30, 2010, to approximately $49.2 million during the year ended September 30, 2011. On November 22, 2010, we amended the Credit Facility, resulting in a reduced interest rate on outstanding borrowings. In addition to the lower interest rate, the amendment removed the annual minimum earnings shortfall fee to the committed lenders. During 2011 we reversed $0.6 million of a minimum earnings shortfall fee which was recorded as a credit to interest expense.
Professional fees decreased by $1.0 million for the year ended September 30, 2011, as compared to the prior year, due primarily to a larger amount of legal fees incurred during the year ended September 30, 2010 in connection with the restructuring of certain troubled loans.
Compensation expense decreased for the year ended September 30, 2011 as compared to the prior year due to the conversion of stock option loans of two former employees of our Adviser from recourse to non-recourse loans during the year ended September 30, 2010. The conversions were non-cash transactions and were accounted for as repurchases of the shares previously received by the employees upon exercise of the stock options in exchange for the non-recourse notes. The repurchases were accounted for as treasury stock transactions at the fair value of the shares, totaling $420. Since the value of the stock option loans totaled $665, we recorded compensation expense of $245 in fiscal 2010.
Realized Loss and Unrealized (Depreciation) Appreciation on Investments
Realized Losses
For the year ended September 30, 2011, we recorded a net realized loss on investments of $1.3 million, which resulted from a restructuring of one of our portfolio companies, SCI. For the year ended September 30, 2010, we recorded a net realized loss on investments of $2.9 million, which consisted of $4.3 million of losses
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from the sale of several syndicated loans, Gold Toe Investment Corp., Kinetek Acquisition Corp and Wesco Holdings, Inc., the Western Directories, Inc. write-off, and the CCS, LLC payoff, partially offset by a $1.4 million gain from the ACE Expediters Inc. payoff.
Unrealized (Depreciation) Appreciation
Net unrealized (depreciation) appreciation on investments is the net change in the fair value of our investment portfolio during the reporting period, including the reversal of previously recorded unrealized appreciation or depreciation when gains and losses are actually realized. The net unrealized appreciation (depreciation) across our investments for the year ended September 30, 2011 was as follows:
| Year Ended September 30, 2011 |
||||||
| Portfolio Company |
Investment Classification |
Net Unrealized Appreciation (Depreciation) |
||||
| Defiance Integrated Technologies, Inc. | Control | $ | 5,992 | |||
| Midwest Metal Distribution, Inc. | Control | 1,637 | ||||
| KMBQ Corporation | Non-Control / Non-Affiliate | 738 | ||||
| Puerto Rico Cable Acquisition |
Non-Control / Non-Affiliate | 732 | (A) | |||
| WP Evenflo Group Holdings, Inc. | Non-Control / Non-Affiliate | 485 | ||||
| Sunshine Media Holdings | Control | (21,237 | )(B) | |||
| Newhall Holdings, Inc. | Non-Control / Non-Affiliate | (9,339 | ) | |||
| Viapack, Inc. | Control | (4,882 | )(B) | |||
| Lindmark Acquisition, LLC | Control | (4,547 | ) | |||
| GFRC Holdings LLC | Non-Control / Non-Affiliate | (1,668 | ) | |||
| Legend Communications of Wyoming LLC | Non-Control / Non-Affiliate | (975 | ) | |||
| Heartland Communications Group | Non-Control / Non-Affiliate | (871 | ) | |||
| Sunburst Media - Louisiana, LLC | Non-Control / Non-Affiliate | (847 | ) | |||
| Access Television Network, Inc. | Non-Control / Non-Affiliate | (704 | ) | |||
| International Junior Golf Training Acquisition Company |
Non-Control / Non-Affiliate | (666 | ) | |||
| Mood Media Corporation | Non-Control / Non-Affiliate | (553 | ) | |||
| LocalTel, LLC | Control | (479 | ) | |||
| BAS Broadcasting | Non-Control / Non-Affiliate | (411 | ) | |||
| Vision Solutions, Inc. | Non-Control / Non-Affiliate | (355 | ) | |||
| Westlake Hardware, Inc. | Non-Control / Non-Affiliate | (280 | ) | |||
| Other, net (<$250) |
(529 | ) | ||||
|
|
|
|||||
| Total: | $ | (38,759 | ) | |||
|
|
|
|||||
| (A) | Includes the reversal of $0.7 million in unrealized depreciation in connection with the payoff of the investment. |
| (B) | Reclassified from Non-Control/Non-Affiliate to Control investment during the year ended September 30, 2011 in connection with follow- on equity investments. |
The largest driver of our net unrealized depreciation for the year ended September 30, 2011 was the depreciation in each of Sunshine Media Holdings and Newhall Holdings Inc., primarily due to diminished portfolio company performance and a decrease in certain comparable multiples, partially offset by appreciation in Defiance Integrated Technologies, Inc., which resulted from an improvement in portfolio company performance and in certain comparable multiples.
55
Table of Contents
The net unrealized appreciation (depreciation) across our investments for the year ended September 30, 2010 was as follows:
| Year Ended September 30, 2010 |
||||||
| Portfolio Company |
Investment Classification |
Net Unrealized Appreciation (Depreciation) |
||||
| Western Directories, Inc. |
Control | $ | 2,819 | (A) | ||
| Visual Edge Technology, Inc. | Non-Control / Non-Affiliate | 1,716 | (B) | |||
| BAS Broadcasting | Non-Control / Non-Affiliate | 1,114 | ||||
| Westlake Hardware, Inc. | Non-Control / Non-Affiliate | 951 | ||||
| Clinton Holdings, LLC | Control | 888 | ||||
| WP Evenflo Group Holdings, Inc. | Non-Control / Non-Affiliate | 826 | ||||
| Puerto Rico Cable Acquisition Company, Inc. | Non-Control / Non-Affiliate | 729 | ||||
| Defiance Integrated Technologies, Inc. | Control | 727 | ||||
| Northern Contours, Inc. | Non-Control / Non-Affiliate | 613 | ||||
| Pinnacle Treatment Centers, Inc. | Non-Control / Non-Affiliate | 534 | ||||
| Kinetek Acquisition Corp. | Non-Control / Non-Affiliate | 513 | ||||
| CCS, LLC | Non-Control / Non-Affiliate | 505 | (C) | |||
| Allison Publications, LLC | Non-Control / Non-Affiliate | 426 | ||||
| Wesco Holdings, Inc. | Non-Control / Non-Affiliate | 408 | ||||
| Gold Toe Investment Corp. | Non-Control / Non-Affiliate | 280 | ||||
| Global Materials Technologies, Inc. | Non-Control / Non-Affiliate | 259 | ||||
| Lindmark Acquisition, LLC | Control | (4,803 | ) | |||
| Legend Communications of Wyoming LLC | Non-Control / Non-Affiliate | (2,520 | ) | |||
| LocalTel, LLC | Control | (1,381 | ) | |||
| Finn Corporation | Non-Control / Non-Affiliate | (939 | ) | |||
| KMBQ Corporation | Non-Control / Non-Affiliate | (807 | ) | |||
| Sunburst Media – Louisiana, LLC | Non-Control / Non-Affiliate | (696 | ) | |||
| SCI Cable, Inc. | Non-Control / Non-Affiliate | (585 | ) | |||
| BERTL, Inc. | Control | (390 | ) | |||
| Precision Acquisitions Group Holdings, Inc. | Non-Control / Non-Affiliate | (337 | ) | |||
| Sunshine Media Holdings | Non-Control / Non-Affiliate | (265 | ) | |||
| Other, net (<$250) | 1,732 | |||||
|
|
|
|||||
| Total: | $ | 2,317 | ||||
|
|
|
|||||
| (A) | Includes the reversal of $2.9 million in unrealized depreciation in connection with the write-off of the investment. |
| (B) | Includes the reversal of $1.7 million in unrealized depreciation in connection with payoff of the line of credit and senior subordinated term loan of Visual Edge Technology, Inc. |
| (C) | Includes the reversal of the unrealized depreciation in connection with the $0.3 million realized loss on the sale of CCS, LLC. |
Excluding reversals, a general increase in our net unrealized depreciation for the year ended September 30, 2010 was experienced by our Control investments, partially offset by increased unrealized appreciation in our Non-Control/Non-Affiliate portfolio of debt holdings, based on increases in market comparables and improved portfolio company performance.
Our investment portfolio depreciated during the year ended September 30, 2011, generally due to a decrease in certain comparable multiples and the performance of some of our portfolio companies used to estimate the fair value of our investments. Our entire portfolio was fair valued at 79.1% of cost as of
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September 30, 2011 and 86.2% of cost as of September 30, 2010. The cumulative unrealized depreciation of our investments does not have an impact on our current ability to pay distributions to stockholders; however, it may be an indication of future realized losses, which could ultimately reduce our income available for distribution.
Net Unrealized Depreciation (Appreciation) on Borrowings
We elected to apply the FASB’s ASC No. 825, “Financial Instruments,” which requires that we apply a fair value methodology to the Credit Facility. We estimated the fair value of the Credit Facility using estimates of value provided by an independent third party and our own assumptions in the absence of observable market data, including estimated remaining life, current market yield and interest rate spreads of similar securities as of the measurement date. The Credit Facility was fair valued at $100.0 million and $17.9 million as of September 30, 2011 and 2010, respectively. As a result, we recorded net unrealized depreciation (appreciation) of $0.5 million and ($0.8) million for the years ended September 30, 2011 and 2010, respectively.
Net (Decrease) Increase in Net Assets from Operations
For the year ended September 30, 2011, we realized a net decrease in net assets resulting from operations of $21.1 million as a result of the factors discussed above. For the year ended September 30, 2010, we realized a net increase in net assets resulting from operations of $16.4 million. Our net (decrease) increase in net assets resulting from operations per basic and diluted weighted average common share for the years ended September 30, 2011 and 2010 were ($1.00) and $0.78, respectively.
COMPARISON OF THE FISCAL YEARS ENDED SEPTEMBER 30, 2010 AND SEPTEMBER 30, 2009
A comparison of our operating results for the fiscal years ended September 30, 2010 and 2009 is below:
| Year Ended September 30, |
||||||||||||||||
| 2010 | 2009 | $ Change | % Change | |||||||||||||
| INVESTMENT INCOME |
||||||||||||||||
| Interest income |
||||||||||||||||
| Portfolio |
$ | 32,583 | $ | 41,680 | $ | (9,097 | ) | (21.8 | )% | |||||||
| Cash |
1 | 11 | (10 | ) | (90.9 | ) | ||||||||||
| Notes receivable from employees |
437 | 468 | (31 | ) | (6.6 | ) | ||||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| Total interest income |
33,021 | 42,159 | (9,138 | ) | (21.7 | ) | ||||||||||
| Other income |
2,518 | 459 | 2,059 | 448.6 | ||||||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| Total investment income |
35,539 | 42,618 | (7,079 | ) | (16.6 | ) | ||||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| EXPENSES |
||||||||||||||||
| Loan servicing fee |
3,412 | 5,620 | (2,208 | ) | (39.3 | ) | ||||||||||
| Base management fee |
2,673 | 2,005 | 668 | 33.3 | ||||||||||||
| Incentive fee |
1,823 | 3,326 | (1,503 | ) | (45.2 | ) | ||||||||||
| Administration fee |
807 | 872 | (65 | ) | (7.5 | ) | ||||||||||
| Interest expense |
4,390 | 7,949 | (3,559 | ) | (44.8 | ) | ||||||||||
| Amortization of deferred financing fees |
1,490 | 2,778 | (1,288 | ) | (46.4 | ) | ||||||||||
| Professional fees |
2,101 | 1,586 | 515 | 32.5 | ||||||||||||
| Compensation expense |
245 | — | 245 | NM | ||||||||||||
| Other expenses |
1,259 | 1,131 | 128 | 11.3 | ||||||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| Expenses before credit from Adviser |
18,200 | 25,267 | (7,067 | ) | (28.0 | ) | ||||||||||
| Credit to fees from Adviser |
(420 | ) | (3,680 | ) | 3,260 | (88.6 | ) | |||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| Total expenses net of credit to credits to fees |
17,780 | 21,587 | (3,807 | ) | (17.6 | ) | ||||||||||
|
|
|
|
|
|
|
|
|
|||||||||
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Table of Contents
| Year Ended September 30, |
||||||||||||||||
| 2010 | 2009 | $ Change | % Change | |||||||||||||
| NET INVESTMENT INCOME |
17,759 | 21,031 | (3,272 | ) | (15.6 | ) | ||||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| REALIZED AND UNREALIZED (LOSS) GAIN ON: |
||||||||||||||||
| Net realized loss on investments |
(2,893 | ) | (26,411 | ) | 23,518 | (89.0 | ) | |||||||||
| Net unrealized appreciation on investments |
2,317 | 9,513 | (7,196 | ) | (75.6 | ) | ||||||||||
| Realized loss on settlement of derivative |
— | (304 | ) | 304 | (100.0 | ) | ||||||||||
| Net unrealized appreciation on derivative |
— | 304 | (304 | ) | (100.0 | ) | ||||||||||
| Net unrealized appreciation on borrowings |
(789 | ) | (350 | ) | (439 | ) | NM | |||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| Net loss on investments, derivative and borrowings |
(1,365 | ) | (17,248 | ) | 15,883 | (92.1 | ) | |||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| NET INCREASE IN NET ASSETS RESULTING FROM OPERATIONS |
$ | 16,394 | $ | 3,783 | $ | 12,611 | 333.4 | % | ||||||||
|
|
|
|
|
|
|
|
|
|||||||||
NM = Not Meaningful
Investment Income
Investment income for the year ended September 30, 2010 was $35.5 million as compared to $42.6 million for the year ended September 30, 2009. Interest income from our aggregate investment portfolio decreased for the year ended September 30, 2010 as compared to the prior year. The level of interest income from investments is directly related to the balance, at cost, of the interest-bearing investment portfolio outstanding during the year multiplied by the weighted average yield. The weighted average cost basis of our interest-bearing investment portfolio during the year ended September 30, 2010 was approximately $300.5 million, compared to approximately $413.9 million for the year ended September 30, 2009. The weighted average yield varies from year to year based on the current stated interest rate on interest-bearing investments and the amounts of loans for which interest is not accruing. Interest income from our investments decreased primarily due to the overall reduction in the cost basis of our investments, resulting primarily from the exit of 12 investments during the year ended September 30, 2010. The weighted average yield on our portfolio was 10.8% for the year ended September 30, 2010 as compared to 10.1% for the prior year. As of September 30, 2010, six investments were on non-accrual, for an aggregate of approximately $29.9 million at cost, or 10.2% of the cost basis of all debt investments in our portfolio, and as of September 30, 2009, five investments were on non-accrual, for an aggregate of approximately $10.0 million at cost, or 2.8% of the cost basis of all debt investments in our portfolio.
Interest income from loans to employees, in connection with the exercise of employee stock options, decreased slightly for the year ended September 30, 2010 as compared to the prior year due to principal payments on the employee loans during the year ended September 30, 2010. In addition, during the year ended September 30, 2010, $0.5 million of an employee stock option loan to a former employee of the Adviser was transferred from notes receivable – employees to other assets in connection with the termination of her employment with the Adviser and the later amendment of the loan. The interest on the loan from the time the employee stopped working for the Adviser is included in other income on the accompanying Consolidated Statement of Operations.
Other income increased for the year ended September 30, 2010 as compared to the prior year. Other income includes success fees as well as prepayment fees received upon the full repayment of certain loan investments ahead of contractual maturity and prepayment fees received upon the early unscheduled principal repayments, which was based on a percentage of the outstanding principal amount of the loan at the date of prepayment. Success fees earned during the year ended September 30, 2010 totaled $1.9 million, which we received from ActivStyle Acquisition Co., Anitox Acquisition Co., Doe & Ingalls Management LLC, Saunders & Associates, Northern Contours, Inc., Tulsa Welding School and Visual Edge Technology, Inc. Success fees earned during the year ended September 30, 2009 totaled $0.4 million, which we received from ActivStyle Acquisition Co., Interfilm Holdings, Inc. and It’s Just Lunch.
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The following table lists the investment income for our five largest portfolio company investments at fair value during the respective periods:
| As of September 30, 2010 | Year Ended September 30, 2010 | |||||||||||||||
| Company |
Fair Value | % of Portfolio | Investment Income |
% of Total Investment Income |
||||||||||||
| Sunshine Media, Inc. |
$ | 27,286 | 10.6 | % | $ | 3,254 | 9.1 | % | ||||||||
| Reliable Biopharmaceutical Holdings, Inc. |
26,574 | 10.3 | 3,003 | 8.4 | ||||||||||||
| Westlake Hardware, Inc. |
19,620 | 7.6 | 2,940 | 8.3 | ||||||||||||
| Midwest Metal Distribution, Inc. |
15,539 | 6.0 | 2,127 | 6.0 | ||||||||||||
| Winchester Electronics Co. |
12,508 | 4.9 | 1,589 | 4.5 | ||||||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| Subtotal—five largest investments |
101,527 | 39.4 | 12,913 | 36.3 | ||||||||||||
| Other portfolio companies |
155,582 | 60.6 | 22,036 | 62.0 | ||||||||||||
| Other non-portfolio company revenue |
— | — | 590 | 1.7 | ||||||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| Total investment portfolio |
$ | 257,109 | 100.0 | % | $ | 35,539 | 100.0 | % | ||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| As of September 30, 2009 | Year Ended September 30, 2009 | |||||||||||||||
| Company |
Fair Value | % of Portfolio | Investment income |
% of Total Investment Income |
||||||||||||
| Reliable Biopharmaceutical Holdings, Inc. |
$ | 26,996 | 8.4 | % | $ | 3,073 | 7.2 | % | ||||||||
| Sunshine Media, Inc. |
25,951 | 8.1 | 3,352 | 7.9 | ||||||||||||
| Westlake Hardware, Inc. |
23,669 | 7.3 | 2,417 | 5.7 | ||||||||||||
| VantaCore |
13,589 | 4.2 | 1,696 | 4.0 | ||||||||||||
| GFRC Holdings LLC |
12,882 | 4.0 | 1,417 | 3.3 | ||||||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| Subtotal—five largest investments |
103,087 | 32.0 | 11,955 | 28.1 | ||||||||||||
| Other portfolio companies |
217,882 | 68.0 | 30,184 | 70.8 | ||||||||||||
| Other non-portfolio company revenue |
— | — | 479 | 1.1 | ||||||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| Total investment portfolio |
$ | 320,969 | 100.0 | % | $ | 42,618 | 100.0 | % | ||||||||
|
|
|
|
|
|
|
|
|
|||||||||
Operating Expenses
Operating expenses, net of credits from the Adviser for fees earned and voluntary irrevocable and unconditional waivers to the base management and incentive fees, decreased for the year ended September 30, 2010 as compared to the prior year. This reduction was primarily due to a decrease in interest expense and amortization of deferred financing fees incurred in connection with the Credit Facility, which were partially offset by an increase in professional fees.
Loan servicing fees decreased for the year ended September 30, 2010 as compared to the prior year. These fees were incurred in connection with a loan servicing agreement between Business Loan and our Adviser, which is based on the size and mix of the portfolio. The decrease was primarily due to the reduction in the size of our investment portfolio.
The base management fee (which is net of loan servicing fees) increased for the year ended September 30, 2010 as compared to the prior year. However, the gross management fee (consisting of the loan servicing fees plus the base management fee) decreased from the prior year. The gross management fee decreased due to fewer total assets held
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during the year ended September 30, 2010. The base management fee is computed quarterly as described under “Investment Advisory and Management Agreement” in Note 4 of the notes to the accompanying Consolidated Financial Statements. The incentive fee decreased for the year ended September 30, 2010 as compared to the prior year. The board of our Adviser voluntarily, irrevocably and unconditionally waived a portion of the incentive fee for the year ended September 30, 2010 and the entire incentive fee for the year ended September 30, 2009.
The incentive fee and associated credits are summarized in the table below:
| Year Ended September 30, | ||||||||
| 2010 | 2009 | |||||||
| Average total assets subject to base management fee(A) |
$ | 304,250 | $ | 381,250 | ||||
| Multiplied by annual base management fee of 2% |
2.0 | % | 2.0 | % | ||||
|
|
|
|
|
|||||
| Gross base management fee |
6,085 | 7,625 | ||||||
| Reduction for loan servicing fees(B) |
(3,412 | ) | (5,620 | ) | ||||
|
|
|
|
|
|||||
| Base management fee(B) |
$ | 2,673 | $ | 2,005 | ||||
|
|
|
|
|
|||||
| Credits to base management fee from Adviser: |
||||||||
| Fee reduction for the waiver of 2.0% fee on senior syndicated loans to 0.5% |
(42 | ) | (265 | ) | ||||
| Credit for fees received by Adviser from the portfolio companies |
(213 | ) | (89 | ) | ||||
|
|
|
|
|
|||||
| Credit to base management fee from Adviser |
(255 | ) | (354 | ) | ||||
|
|
|
|
|
|||||
| Net base management fee |
$ | 2,418 | $ | 1,651 | ||||
|
|
|
|
|
|||||
| Incentive fee(B) |
$ | 1,823 | $ | 3,326 | ||||
| Credit from voluntary, irrevocable waiver issued by Adviser’s board of directors |
(165 | ) | (3,326 | ) | ||||
|
|
|
|
|
|||||
| Net incentive fee |
$ | 1,658 | $ | — | ||||
|
|
|
|
|
|||||
| Total credits to fees: |
||||||||
| Fee reduction for the voluntary, irrevocable waiver of 2.0% fee on senior syndicated loans to 0.5% |
$ | (42 | ) | $ | (265 | ) | ||
| Credit for fees received by Adviser from portfolio companies |
(213 | ) | (89 | ) | ||||
| Incentive fee credit |
(165 | ) | (3,326 | ) | ||||
|
|
|
|
|
|||||
| Credit to base management and incentive fees from Adviser(B) |
$ | (420 | ) | $ | (3,680 | ) | ||
|
|
|
|
|
|||||
| (A) | Average total assets subject to the base management fee is defined as total assets, including investments made with proceeds of borrowings, less any uninvested cash or cash equivalents resulting from borrowings, valued at the end of the four most recently completed quarters and appropriately adjusted for any share issuances or repurchases during the applicable year. |
| (B) | Reflected, in total, as a line item on the Consolidated Statement of Operations located elsewhere in this report. |
Interest expense decreased for the year ended September 30, 2010 as compared to the prior year due primarily to decreased borrowings under our line of credit during the year ended September 30, 2010. The balance for the year ended September 30, 2010 included $0.6 million of the minimum earnings shortfall fee that was accrued as of September 30, 2010.
Amortization of deferred financing fees decreased for the year ended September 30, 2010 as compared to the prior year due to significant one-time costs related to the termination of our prior credit facility and transition to the Credit Facility, as previously defined, resulting in increased amortization of deferred financing fees during the year ended September 30, 2009 as compared to the year ended September 30, 2010.
Compensation expense increased for the year ended September 30, 2010 as compared to the prior year due to the conversion of stock option loans of two former employees from recourse to non-recourse loans. The
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conversions were non-cash transactions and were accounted for as repurchases of the shares previously received by the employees upon exercise of the stock options in exchange for the non-recourse notes. The repurchases were accounted for as treasury stock transactions at the fair value of the shares, totaling $0.4 million. Since the value of the stock option loans totaled $0.7 million, we recorded compensation expense of $0.3 million.
Professional fees increased for the year ended September 30, 2010 as compared to the prior year, due primarily to an increase in legal fees incurred in connection with the restructuring of certain troubled loans.
Realized Loss and Unrealized Appreciation (Depreciation) on Investments
Realized Losses
For the year ended September 30, 2010, we recorded a net realized loss on investments of $2.9 million, which consisted of $4.3 million of losses from three syndicated loan sales (Gold Toe Investment Corp., Kinetek Acquisition Corp. and Wesco Holdings, Inc.), the Western Directories, Inc. write-off, and the CCS, LLC payoff, offset by a $1.4 million gain from the ACE Expediters, Inc. payoff. For the year ended September 30, 2009, we recorded a net realized loss on investments of $26.4 million, which consisted of $15.0 million of losses from the sale of several syndicated loans and one non-syndicated loan, a $9.4 million write-off of the Badanco Acquisition Corp. loan, and a $2.0 million write-off of a portion of the Greatwide Logistics Services, Inc. second lien syndicated loan.
Unrealized Appreciation (Depreciation)
Net unrealized appreciation (depreciation) on investments is the net change in the fair value of our investment portfolio during the reporting period, including the reversal of previously recorded unrealized appreciation or depreciation when gains and losses are actually realized. The net unrealized appreciation (depreciation) across our investments for the year ended September 30, 2010 was as follows:
| Year Ended September 30, 2010 |
||||||
| Portfolio Company |
Investment Classification |
Net Unrealized Appreciation (Depreciation) |
||||
| Western Directories, Inc. | Control | $ | 2,819 | (A) | ||
| Visual Edge Technology, Inc. | Non-Control / Non-Affiliate | 1,716 | (B) | |||
| BAS Broadcasting | Non-Control / Non-Affiliate | 1,114 | ||||
| Westlake Hardware, Inc. | Non-Control / Non-Affiliate | 951 | ||||
| Clinton Holdings, LLC | Control | 888 | ||||
| WP Evenflo Group Holdings, Inc. | Non-Control / Non-Affiliate | 826 | ||||
| Puerto Rico Cable Acquisition Company, Inc. | Non-Control / Non-Affiliate | 729 | ||||
| Defiance Integrated Technologies, Inc. | Control | 727 | ||||
| Northern Contours, Inc. | Non-Control / Non-Affiliate | 613 | ||||
| Pinnacle Treatment Centers, Inc. | Non-Control / Non-Affiliate | 534 | ||||
| Kinetek Acquisition Corp. | Non-Control / Non-Affiliate | 513 | ||||
| CCS, LLC | Non-Control / Non-Affiliate | 505 | (C) | |||
| Allison Publications, LLC | Non-Control / Non-Affiliate | 426 | ||||
| Wesco Holdings, Inc. | Non-Control / Non-Affiliate | 408 | ||||
| Gold Toe Investment Corp | Non-Control / Non-Affiliate | 280 | ||||
| Global Materials Technologies, Inc. | Non-Control / Non-Affiliate | 259 | ||||
| Lindmark Acquisition, LLC | Control | (4,803 | ) | |||
| Legend Communications of Wyoming LLC | Non-Control / Non-Affiliate | (2,520 | ) | |||
| LocalTel, LLC | Control | (1,381 | ) | |||
| Finn Corporation | Non-Control / Non-Affiliate | (939 | ) | |||
| KMBQ Corporation | Non-Control / Non-Affiliate | (807 | ) | |||
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Table of Contents
| Year Ended September 30, 2010 |
||||||
| Portfolio Company |
Investment Classification |
Net Unrealized Appreciation (Depreciation) |
||||
| Sunburst Media – Louisiana, LLC | Non-Control / Non-Affiliate | (696 | ) | |||
| SCI Cable, Inc. | Non-Control / Non-Affiliate | (585 | ) | |||
| BERTL, Inc. | Control | (390 | ) | |||
| Precision Acquisitions Group Holdings, Inc. | Non-Control / Non-Affiliate | (337 | ) | |||
| Sunshine Media Holdings | Non-Control / Non-Affiliate | (265 | ) | |||
| Other, net (<$250) | 1,732 | |||||
|
|
|
|||||
| Total: |
$ | 2,317 | ||||
|
|
|
|||||
| (A) | Includes the reversal of $2.9 million in unrealized depreciation in connection with the write-off of the investment. |
| (B) | Includes the reversal of $1.7 million in unrealized depreciation in connection with payoff of the line of credit and senior subordinated term loan of Visual Edge Technology, Inc. |
| (C) | Includes the reversal of the unrealized depreciation in connection with the $0.3 million realized loss on the sale of CCS, LLC. |
The unrealized appreciation (depreciation) across our investments for the year ended September 30, 2009 was as follows:
| Year Ended September 30, 2009 |
||||||
| Portfolio Company |
Investment Classification |
Net Unrealized Appreciation (Depreciation) |
||||
| Greatwide Logistics Services, Inc. |
Non-Control / Non-Affiliate | $ | 2,485 | |||
| It’s Just Lunch International, LLC |
Non-Control / Non-Affiliate | 2,175 | ||||
| Defiance Integrated Technologies, Inc. |
Non-Control / Non-Affiliate | 1,925 | ||||
| Harrington Holdings, Inc. |
Non-Control / Non-Affiliate | 1,521 | ||||
| Sunshine Media Holdings |
Non-Control / Non-Affiliate | 1,327 | ||||
| Reliable Biopharmaceutical Holdings, Inc. |
Non-Control / Non-Affiliate | 1,067 | ||||
| Ace Expediters, Inc. |
Non-Control / Non-Affiliate | 897 | ||||
| Westlake Hardware, Inc. |
Non-Control / Non-Affiliate | 869 | ||||
| RedPrairie Holding, Inc |
Non-Control / Non-Affiliate | 847 | ||||
| Badanco Acquisition Corp. |
Non-Control / Non-Affiliate | 662 | ||||
| Emdeon Business Services, Inc. |
Non-Control / Non-Affiliate | 623 | ||||
| Newhall Holdings, Inc. |
Non-Control / Non-Affiliate | 562 | ||||
| Bresnan Communications, LLC |
Non-Control / Non-Affiliate | 535 | ||||
| Sunburst Media – Louisiana, LLC |
Non-Control / Non-Affiliate | 535 | ||||
| Winchester Electronics |
Non-Control / Non-Affiliate | 525 | ||||
| LocalTel, LLC |
Control | 496 | ||||
| Anitox Acquisition Company |
Non-Control / Non-Affiliate | 444 | ||||
| John Henry Holdings, Inc. |
Non-Control / Non-Affiliate | 400 | ||||
| ActivStyle Acquisition Co. |
Non-Control / Non-Affiliate | 380 | ||||
| Visual EdgeTechnology, Inc. |
Non-Control / Non-Affiliate | 359 | ||||
| International Junior Golf Training Acquisition Company |
Non-Control / Non-Affiliate | 299 | ||||
| AKQA Holdings |
Non-Control / Non-Affiliate | 293 | ||||
| CHG Companies, Inc. |
Non-Control / Non-Affiliate | 292 | ||||
| Doe & Ingalls Management LLC |
Non-Control / Non-Affiliate | 265 | ||||
| RCS Management Holding Co. |
Non-Control / Non-Affiliate | 259 | ||||
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Table of Contents
| Year Ended September 30, 2009 |
||||||
| Portfolio Company |
Investment Classification |
Net Unrealized Appreciation (Depreciation) |
||||
| Clinton Holdings, LLC |
Non-Control / Non-Affiliate | (3,012 | ) | |||
| BAS Broadcasting |
Non-Control / Non-Affiliate | (1,831 | ) | |||
| Western Directories, Inc. |
Control | (1,165 | ) | |||
| SCI Cable, Inc. |
Non-Control / Non-Affiliate | (948 | ) | |||
| KMBQ Corporation |
Non-Control / Non-Affiliate | (853 | ) | |||
| Legend Communications of Wyoming LLC |
Non-Control / Non-Affiliate | (816 | ) | |||
| US Healthcare Communications, Inc. |
Control | (768 | ) | |||
| Heartland Communications Group, LLC |
Non-Control / Non-Affiliate | (678 | ) | |||
| Global Materials Technologies, Inc. |
Non-Control / Non-Affiliate | (395 | ) | |||
| WP Evenflo Group Holdings Inc. |
Non-Control / Non-Affiliate | (394 | ) | |||
| Finn Corporation |
Non-Control / Non-Affiliate | (354 | ) | |||
| Lindmark Acquisition, LLC |
Non-Control / Non-Affiliate | (324 | ) | |||
| Northern Contours, Inc. |
Non-Control / Non-Affiliate | (319 | ) | |||
| Other, net (<$250) |
1,328 | |||||
|
|
|
|||||
| Total: |
$ | 9,513 | ||||
|
|
|
|||||
The primary driver of our net unrealized appreciation for the years ended September 30, 2010 and 2009 was the reversal of previously recorded unrealized depreciation on our exited investments. Our Control investments also experienced unrealized appreciation due to an increase in certain comparable multiples. However, our Non-Control investments experienced unrealized depreciation, which was due primarily to a reduction in certain comparable multiples and the performance of some of our portfolio companies used to estimate the fair value of our investments. Although our investment portfolio appreciated during the year ended September 30, 2010, our entire portfolio was fair valued at 86% of cost as of September 30, 2010. The cumulative unrealized depreciation of our investments does not have an impact on our current ability to pay distributions to stockholders; however, it may be an indication of future realized losses, which could ultimately reduce our income available for distribution.
Realized Loss and Unrealized Appreciation on Derivative
For the year ended September 30, 2009, we realized a loss of $0.3 million due to the expiration of an interest rate cap in February 2009. In addition, we recorded unrealized appreciation on derivative of $0.3 million, which resulted from the reversal of previously recorded unrealized depreciation when the loss was realized during the year.
Net Unrealized Appreciation on Borrowings
Net unrealized appreciation on borrowings is the net change in the fair value of our line of credit borrowings during the reporting period, including the reversal of previously recorded unrealized appreciation or depreciation when gains and losses are realized. The net unrealized appreciation on borrowings for the years ended September 30, 2010 and 2009 were $0.8 million and $0.4 million, respectively. The Credit Facility was fair valued at $17.9 million and $83.4 million as of September 30, 2010 and 2009, respectively.
Net Increase in Net Assets from Operations
For the year ended September 30, 2010, we realized a net increase in net assets resulting from operations of $16.4 million as a result of the factors discussed above. For the year ended September 30, 2009, we realized a net increase in net assets resulting from operations of $3.8 million. Our net increase in net assets resulting from operations per basic and diluted weighted average common share for the years ended September 30, 2010 and 2009 were $0.78 and $0.18, respectively.
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LIQUIDITY AND CAPITAL RESOURCES
Operating Activities
Net cash provided by operating activities during the three months ended December 31, 2011 was $9.5 million, as compared to net cash used in operating activities of $4.0 million for the three months ended December 31, 2010. This increase was primarily due to $11.2 million received from the custodian after December 31, 2010 which had resulted from two payoffs during December 2010. Additionally, we had increased interest income resulting from a larger portfolio balance and increased sales proceeds, which were partially offset by increased interest expense and decreased principal repayments when comparing the quarter ended December 31, 2011 to the prior year quarter. The majority of cash from operating activities is generated from the interest payments on debt securities that we receive from our portfolio companies. We utilize this cash to primarily to fund new investments, interest payments on our Credit Facility, distributions to our stockholders, management fees to our Adviser, and other operating expenses.
At December 31, 2011, we had equity investments in, loans to, or syndicated participations in, 57 private companies with an aggregate cost basis of approximately $370.5 million. At December 31, 2010, we had investments in equity of, loans to, or syndicated participations in, 41 private companies with an aggregate cost basis of approximately $382.8 million.
The following table summarizes our total portfolio investment activity during the three months ended December 31, 2011 and 2010 at fair value:
| Three Months Ended December 31, | ||||||||
| 2011 | 2010 | |||||||
| Beginning investment portfolio at fair value |
$ | 302,947 | $ | 257,109 | ||||
| New investments |
1,590 | 9,000 | ||||||
| Disbursements to existing portfolio companies |
9,661 | 2,794 | ||||||
| Principal repayments (including repayment of PIK) |
(10,780 | ) | (13,208 | ) | ||||
| Proceeds from sales |
(4,489 | ) | (37 | ) | ||||
| Increase in investment balance due to PIK |
— | 4 | ||||||
| Net unrealized depreciation |
(9,314 | ) | (3,448 | ) | ||||
| Reversal of prior period depreciation on realization |
11,557 | 504 | ||||||
| Net realized loss |
(8,400 | ) | — | |||||
| Net change in premiums and discounts |
74 | (213 | ) | |||||
|
|
|
|
|
|||||
| Ending investment portfolio at fair value |
$ | 292,846 | $ | 252,505 | ||||
|
|
|
|
|
|||||
The following table summarizes the contractual principal repayment and maturity of our investment portfolio by fiscal year, assuming no voluntary prepayments, at December 31, 2011.
| Amount | ||||
| For the remaining nine months ending September 30: |
||||
| 2012 |
$ | 41,749 | ||
| For the fiscal year ending September 30: |
||||
| 2013 |
118,899 | |||
| 2014 |
34,488 | |||
| 2015 |
31,708 | |||
| 2016 |
75,867 | |||
| Thereafter |
59,427 | |||
|
|
|
|||
| Total contractual repayments |
$ | 362,138 | ||
| Investments in equity securities |
9,784 | |||
| Adjustments to cost basis on debt securities |
(1,452 | ) | ||
|
|
|
|||
| Total cost basis of investments held at December 31, 2011: |
$ | 370,470 | ||
|
|
|
|||
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Net cash used in operating activities for the year ended September 30, 2011 was $68.4 million and consisted primarily of purchases of investments, partially offset by principal repayments on investments. Net cash provided by operating activities for the year ended September 30, 2010 was $86.5 million and consisted primarily of principal repayments on investments partially offset by purchase of investments. For the year ended September 30, 2009, net cash provided by operating activities of $95.5 million consisted of principal repayments on investments and proceeds from the sale of several senior syndicated loans, partially offset by purchase of investments.
As of September 30, 2011, we had investments in debt securities, or loans to or syndicated participations in, 59 private companies with an aggregate cost basis of $382.8 million. As of September 30, 2010, we had investments in debt securities, or loans to or syndicated participations in, 39 private companies with an aggregate cost basis of $298.2 million.
The following table summarizes our total portfolio investment activity during the years ended September 30, 2011, 2010 and 2009:
| Year Ended September 30, | ||||||||||||
| 2011 | 2010 | 2009 | ||||||||||
| Beginning investment portfolio at fair value |
$ | 257,109 | $ | 320,969 | $ | 407,933 | ||||||
| New investments |
110,903 | 10,580 | — | |||||||||
| Disbursements to existing portfolio companies |
25,351 | 11,950 | 24,911 | |||||||||
| Principal repayments (including repayment of PIK) |
(45,835 | ) | (82,566 | ) | (47,490 | ) | ||||||
| Proceeds from sales |
(4,167 | ) | (3,119 | ) | (49,203 | ) | ||||||
| Increase in investment balance due to PIK |
12 | 67 | 166 | |||||||||
| Increase in investment balance due to rolled-over interest |
204 | 1,230 | 1,455 | |||||||||
| Loan impairment / contra-investment |
715 | (715 | ) | — | ||||||||
| Net unrealized (depreciation) appreciation |
(42,728 | ) | (4,094 | ) | (15,018 | ) | ||||||
| Reversal of prior period depreciation on realization |
3,969 | 6,411 | 24,531 | |||||||||
| Net realized loss |
(1,119 | ) | (2,893 | ) | (26,411 | ) | ||||||
| Amortization of premiums and discounts |
(1,467 | ) | (711 | ) | 95 | |||||||
|
|
|
|
|
|
|
|||||||
| Ending investment portfolio at fair value |
$ | 302,947 | $ | 257,109 | $ | 320,969 | ||||||
|
|
|
|
|
|
|
|||||||
The following table summarizes the contractual principal repayment and maturity of our investment portfolio by fiscal year, assuming no voluntary prepayments as of September 30, 2011.
| Fiscal Year Ending September 30, |
Amount | |||
| 2012 |
$ | 60,817 | ||
| 2013 |
131,377 | |||
| 2014 |
35,172 | |||
| 2015 |
32,272 | |||
| 2016 |
72,363 | |||
| Thereafter |
43,868 | |||
|
|
|
|||
| Total Contractual Repayments |
$ | 375,869 | ||
| Investments in equity securities |
9,184 | |||
| Unamortized premiums, discounts and investment acquisition costs on debt securities |
(2,238 | ) | ||
|
|
|
|||
| Total |
$ | 382,815 | ||
|
|
|
|||
Financing Activities
Net cash used in financing activities for the three months ended December 31, 2011 was $10.5 million and consisted primarily of net repayments on the Credit Facility of $42.5 million, distributions to common
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stockholders of $4.4 million and $2.1 million of deferred financing fees related to the Series 2016 Term Preferred Stock offering, partially offset by proceeds from the issuance of Series 2016 Term Preferred Stock of $38.5 million. Net cash provided by financing activities for the three months ended December 31, 2010 was $2.7 million and consisted primarily of net borrowings from the Credit Facility of $7.8 million, partially offset by distributions to common stockholders of $4.4 million and $0.7 million in financing fees for the Credit Facility.
Net cash provided by financing activities for the fiscal year ended September 30, 2011 was $67.4 million and mainly consisted of net borrowings on the Credit Facility of $82.6 million, net of distribution payments to stockholders of $17.7 million.
Net cash used in financing activities for the fiscal year ended September 30, 2010 was $84.0 million and primarily consisted of net payments on the Credit Facility of $66.2 million, net of distribution payments to stockholders of $17.7 million.
Net cash used in financing activities for the fiscal year ended September 30, 2009 was $96.7 million and mainly consisted of net payments on the Credit Facility of $68.0 million, net of distribution payments to stockholders of $26.6 million.
Distributions
To qualify as a RIC and thus avoid corporate level tax on the income we distribute to our stockholders, we are required, under Subchapter M of the Code, to distribute at least 90% of our ordinary income and short-term capital gains to our stockholders on an annual basis. In accordance with these requirements, we declared and paid monthly cash distributions of $0.14 per common share for each month from October 2008 through March 2009 and $0.07 per common share for each month from April 2009 through December 2011. In January 2012, our Board of Directors declared a monthly distribution of $0.07 per common share for each of January, February and March 2012. We declared these distributions based on our estimates of net taxable income for the fiscal year.
For the fiscal year ended September 30, 2011, which includes the three months ended December 31, 2010, our distributions to common stockholders totaled approximately $17.7 million. We declared these distributions based on our estimates of net taxable income for the fiscal year. Distributions to common stockholders declared for the fiscal year ended September 30, 2011 were comprised 100% from ordinary income and none from a return of capital. At year-end, we elected to treat a portion of the first distribution paid after year-end as having been paid in the prior year, in accordance with Section 855(a) of the Code. The characterization of the common distributions declared and paid for the fiscal year ending September 30, 2012 will be determined at year end and cannot be determined at this time.
In December 2011, we declared and paid our first dividend on our term preferred stock, in the amount of $0.28203125 per share, representing accrued dividends from November 4, 2011 through December 31, 2011. In January 2012, our Board of Directors declared a monthly distribution of $0.1484375 per preferred share for each of January, February and March 2012. In accordance with accounting principles generally accepted in the United States of America (“GAAP”) purposes, we treat these monthly distributions as an operating expense. For tax purposes, these preferred distributions are deemed to be paid entirely out of ordinary income to preferred stockholders.
Equity
On October 20, 2009, we filed a registration statement (the “Registration Statement”) on Form N-2 (File No. 333-162592) that was amended on December 9, 2009 and which the SEC declared effective on January 28, 2010. A post-effective amendment thereto was declared effective by the SEC on July 15, 2011. The Registration Statement, of which this prospectus is a part, permits us to issue, through one or more transactions, up to an aggregate of $300.0 million in securities, consisting of common stock, preferred stock, subscription rights, debt
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securities and warrants to purchase common stock, including through a combined offering of such securities. To date, under the Registration Statement, we have issued $38.5 million in Series 2016 Term Preferred Stock pursuant to the Registration Statement and have entered into an agreement described in greater detail below, to potentially issue up to 2.0 million shares of common stock from time to time in the future.
On November 4, 2011, we completed an offering of 1.4 million shares of Series 2016 Term Preferred Stock at a price of $25.00 per share pursuant to the Registration Statement. Net proceeds of the offering, after deducting underwriting discounts and offering expenses borne by us were approximately $33.0 million and were used to repay a portion of outstanding borrowings under our line of credit. We are required to redeem all of the outstanding Series 2016 Term Preferred Stock on December 31, 2016 at a redemption price equal to $25.00 per share, plus an amount equal to accumulated but unpaid dividends, if any, to the date of redemption. On November 17, 2011, the underwriters exercised their option to purchase an additional 139,882 shares of our Series 2016 Term Preferred Stock, which resulted in net proceeds, after deducting underwriting discounts and offering expenses borne by us, of $3.4 million, which were also used to repay a portion of the outstanding borrowings under the Credit Facility. We incurred $2.1 million in total offering costs, including underwriting discounts and commissions, related to these transactions, which have been recorded as an asset in accordance with GAAP and are being amortized over the redemption period ending December 31, 2016. The Series 2016 Term Preferred Stock has been recorded as a liability in accordance with GAAP and as such affects our asset coverage, exposing us to additional leverage risks.
On May 17, 2010, we entered into an equity distribution agreement (the “Agreement”) with BB&T Capital Markets, a division of Scott & Stringfellow, LLC (the “Agent”), under which we may, from time to time, issue and sell through the Agent, as sales agent, up to 2.0 million shares (the “Shares”) of our common stock, par value $0.001 per share, based upon instructions from us (including, at a minimum, the number of shares to be offered, the time period during which sales are requested to be made, any limitation on the number of shares that may be sold in any one day and any minimum price below which sales may not be made). Sales of Shares through the Agent, if any, will be executed by means of either ordinary brokers’ transactions on the NASDAQ Global Select Market in accordance with Rule 153 under the Securities Act of 1933, as amended, or such other sales of the Shares as shall be agreed by us and the Agent. The compensation payable to the Agent for sales of Shares with respect to which the Agent acts as sales agent shall be equal to 2.0% of the gross sales price of the Shares for amounts of Shares sold pursuant to the Agreement. To date, we have not issued any shares pursuant to this Agreement.
We anticipate issuing equity securities to obtain additional capital in the future. However, we cannot determine the terms of any future equity issuances or whether we will be able to issue equity on terms favorable to us, or at all. Additionally, when our common stock is trading below NAV, as it has periodically traded over the last three years, we will have regulatory constraints under the 1940 Act on our ability to obtain additional capital in this manner. Generally, the 1940 Act provides that we may not issue and sell our common stock at a price below our NAV per common share, other than to our then existing common stockholders pursuant to a rights offering, without first obtaining approval from our stockholders and our independent directors. As of December 31, 2011, our NAV per common share was $9.90 and as of March 5, 2012 our closing market price was $8.50 per common share. To the extent that our common stock trades at a market price below our NAV per common share, we will generally be precluded from raising equity capital through public offerings of our common stock, other than pursuant to stockholder approval or a rights offering. The asset coverage requirement of a BDC under the 1940 Act effectively limits our ratio of debt to equity to 1:1. To the extent that we are unable to raise capital through the issuance of equity, our ability to raise capital through the issuance of debt may also be inhibited to the extent of the regulatory debt to equity ratio limits.
At our Annual Meeting of Stockholders held on February 16, 2012, our stockholders approved a proposal that authorizes us to sell shares of our common stock at a price below our then current NAV per common share for a period of one year, provided that our Board of Directors makes certain determinations prior to any such sale and that the cumulative number of shares issued and sold pursuant to such authority does not exceed 25% of our then outstanding common stock immediately prior to each such sale. We have not issued any common stock
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since February 2008 and have never issued common stock below NAV per common share. We expect that at the next annual stockholders meeting scheduled in February 2013, our stockholders will again be asked to vote in favor of renewing this proposal for another year.
Series 2016 Term Preferred Stock
The Series 2016 Term Preferred Stock has a redemption date of December 31, 2016 and we are required to redeem all of the outstanding Series 2016 Term Preferred Stock on December 31, 2016 for cash at a redemption price equal to $25.00 per share, which aggregates to approximately $38.5 million, plus an amount equal to accumulated but unpaid dividends, if any, to the date of redemption. In addition, there are two other potential redemption triggers for the Series 2016 Term Preferred Stock: (1) if we fail to maintain an asset coverage ratio of at least 200%, we are required to redeem a portion of the outstanding Series 2016 Term Preferred Stock or to cure the ratio redemption trigger; and (2) at any time on or after December 31, 2012, at our sole option, we may redeem the Series 2016 Term Preferred Stock.
The Series 2016 Term Preferred Stock provides for a fixed dividend equal to 7.125% per year, payable monthly (which equates to approximately $2.7 million per year). The Series 2016 Term Preferred Stock has a preference over our common stock with respect to these dividends, whereby no distributions are payable on our common stock unless the stated dividends, including any accrued and unpaid dividends, on the Series 2016 Term Preferred Stock have been paid in full.
Revolving Credit Facility
On March 15, 2010, we, through Business Loan, entered into a fourth amended and restated credit agreement, which provides for a $127.0 million revolving line of credit arranged by Keybank as administrative agent. BB&T and ING also joined the Credit Facility as committed lenders. Subject to certain terms and conditions, the Credit Facility may be expanded to a maximum of $202.0 million through the addition of other committed lenders to the facility. On November 22, 2010 (the “Amendment Date”), we amended the Credit Facility. Prior to the Amendment Date, advances under the Credit Facility bore interest at a 30-day LIBOR subject to a minimum rate of 2.0%, plus 4.5% per annum, with a commitment fee of 0.5% per annum on undrawn amounts. As of the Amendment Date, advances under the Credit Facility bear interest at a 30-day LIBOR or commercial paper rate subject to a minimum rate of 1.5%, plus 3.75% per annum, with a commitment fee of 0.5% per annum on undrawn amounts when the facility is drawn more than 50% and 1.0% per annum on undrawn amounts when the facility is drawn less than 50%. In addition, effective as of the Amendment Date, we are no longer obligated to pay an annual minimum earnings shortfall fee to the committed lenders, which was calculated as the difference between the weighted average of borrowings outstanding under the Credit Facility and 50.0% of the commitment amount of the Credit Facility, multiplied by 4.5% per annum, less commitment fees paid during the year. During the quarter ended December 31, 2010, we reversed the projected annual minimum earnings shortfall fee of $0.6 million that had been accrued as of September 30, 2010. We paid a $0.7 million fee in connection with the November 2010 amendment.
In August 2011, the Credit Facility was expanded by $10.0 million, which resulted in a $137.0 million line of credit and in January 2012, the maturity date of the Credit Facility was extended to January 18, 2015. If the Credit Facility is not renewed or extended by January 18, 2015, all principal and interest will be due and payable on or before January 18, 2016 (one year thereafter). All other terms of the Credit Facility remained substantially unchanged.
Interest is payable monthly during the term of the Credit Facility. Available borrowings are subject to various constraints imposed under the Credit Facility, based on the aggregate loan balance pledged by Business Loan, which varies as loans are added and repaid, regardless of whether such repayments are prepayments or made as contractually required.
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The administrative agent also requires that any interest or principal payments on pledged loans be remitted directly by the borrower into a lockbox account with Keybank as custodian. Keybank, who also serves as the trustee of the account, generally remits the collected funds to us once a month.
The Credit Facility contains covenants that require Business Loan to maintain its status as a separate legal entity, prohibit certain significant corporate transactions (such as mergers, consolidations, liquidations or dissolutions), and restrict material changes to our credit and collection policies. The Credit Facility also limits payments on distributions to the aggregate net investment income for each of the twelve month periods ended September 30, 2012 and 2011 (thereby extended through September 30, 2015 as per the Credit Facility). Business Loan is also subject to certain limitations on the type of loan investments it can apply toward availability credit in the borrowing base, including restrictions on geographic concentrations, sector concentrations, loan size, distribution payout, payment frequency and status, average life and lien property. The Credit Facility further requires Business Loan to comply with other financial and operational covenants, which obligate Business Loan to, among other things, maintain certain financial ratios, including asset and interest coverage and a minimum number of obligors required in the borrowing base of the credit agreement. Additionally, we are subject to a performance guaranty that requires us to maintain (i) a minimum net of $200.0 million plus 50.0% of all equity and subordinated debt raised after May 15, 2009, (ii) “asset coverage” with respect to “senior securities representing indebtedness” of at least 200%, in accordance with Section 18 of the 1940 Act and (iii) our status as a BDC under the 1940 Act and as a RIC under the Code. The facility requires a minimum of 20 obligors in the borrowing base and as of December 31, 2011, Business Loan had 40 obligors. As of December 31, 2011, we were in compliance with all of the facility covenants.
Contractual Obligations and Off-Balance Sheet Arrangements
At December 31, 2011, we were not party to any signed term sheets for potential investments. However, we have lines of credit and capital commitments with certain of our portfolio companies that have not been fully drawn or called, respectively. Since these commitments have expiration dates and we expect many will never be fully drawn or called, the total commitment amounts do not necessarily represent future cash requirements. We estimate the fair value of these unused and uncalled commitments as of December 31, September 30, 2011 and September 30, 2010 to be minimal.
In addition to the lines of credit and capital commitments with our portfolio companies, we, from time to time, have also extended certain guaranties on behalf of some our portfolio companies. As of December 31 and September 30, 2011, there were no outstanding guaranties.
During the year ended September 30, 2009, we executed a guaranty of a line of credit agreement between Comerica Bank and Defiance Integrated Technologies, Inc., or Defiance, one of our Control investments, which we refer to as the Guaranty. Pursuant to the Guaranty, if Defiance had a payment default, the guaranty was callable once the bank had reduced its claim by using commercially reasonable efforts to collect through disposition of the Defiance collateral. The guaranty was limited to $0.3 million plus interest on that amount accrued from the date demand payment was made under the Guaranty, and all costs incurred by the bank in its collection efforts. On March 1, 2011, the Guaranty was terminated.
As described above, in November 2011, we completed the offering of 1.4 million shares of Series 2016 Term Preferred Stock. Also in November 2011, the underwriters exercised their option to purchase an additional 139,882 shares of our Series 2016 Term Preferred Stock to cover over-allotments. The Series 2016 Term Preferred Stock provides for a fixed dividend equal to 7.125% per year, payable monthly (which equates to approximately $2.7 million per year). Additionally, in accordance with the terms of the Series 2016 Term Preferred Stock, we will be obligated to redeem these shares for cash on December 31, 2016 (and, in certain circumstances, potentially earlier). The aggregate redemption amount will be $38.5 million, plus any accumulated and unpaid dividends through the redemption date.
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Quantitative and Qualitative Disclosures About Market Risk
Market risk includes risks that arise from changes in interest rates, foreign currency exchange rates, commodity prices, equity prices and other market changes that affect market sensitive instruments. The prices of securities held by us may decline in response to certain events, including those directly involving the companies whose securities are owned by us; conditions affecting the general economy; overall market changes; local, regional or global political, social or economic instability; and interest rate fluctuations.
Interest rate risk is the primary risk to which we believe we are exposed. Because we borrow money to make investments, our net investment is dependent upon the difference between the rate at which we borrow funds and the rate at which we invest those funds. As a result, there can be no assurance that a significant change in market interest rates will not have a material adverse effect on our net investment income. We use a combination of debt and equity capital to finance our investing activities. We may use interest rate risk management techniques to limit our exposure to interest rate fluctuations. Such techniques may include various interest rate hedging activities to the extent permitted by the 1940 Act. We have analyzed the potential impact of changes in interest rates on interest income net of interest expense.
We target to have approximately 10% of the loans in our portfolio at fixed rates, with approximately 90% made at variable rates. As of December 31, 2011, our portfolio consisted of the following at cost:
| 87.2% | variable rates with a floor | |||
| 6.5% | variable rates without a floor or ceiling | |||
| 6.3% | fixed rates | |||
|
|
|
|||
| 100.0% | total | |||
|
|
|
All of our variable-rate loans have rates associated with either the current LIBOR or prime rate.
To illustrate the potential impact of changes in interest rates on our net increase in net assets resulting from operations, we have performed the following analysis, which assumes that our balance sheet, as of December 31, 2011, remains constant and no further actions are taken to alter our existing interest rate sensitivity.
| Basis Point Change (a) |
Increase in Interest Income |
Increase in Interest Expense(a) |
Net Increase
in Net Assets Resulting from Operations |
|||||||||
| Up 300 basis points |
$ | 3,214 | $ | 1,008 | $ | 2,206 | ||||||
| Up 200 basis points |
1,163 | 439 | 724 | |||||||||
| Up 100 basis points |
90 | — | 90 | |||||||||
| (a) | As of December 31, 2011, our effective average LIBOR was 0.27%; thus, a 100 basis point decrease could not occur. |
Although management believes that this analysis is indicative of our existing interest rate sensitivity, it does not adjust for potential changes in credit quality, size and composition of our loan portfolio on the balance sheet and other business developments that could affect net increase in net assets resulting from operations. Accordingly, no assurances can be given that actual results would not differ materially from the results under this hypothetical analysis.
We may also experience risk associated with investing in securities of companies with foreign operations. We currently do not anticipate investing in debt or equity of foreign companies, however, some potential portfolio companies may have operations located outside the U.S. These risks include, but are not limited to, fluctuations in foreign currency exchange rates, imposition of foreign taxes, changes in exportation regulations and political and social instability.
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SALES OF COMMON STOCK BELOW NET ASSET VALUE
At our 2012 annual stockholders meeting, our stockholders approved our ability to sell or otherwise issue shares of our common stock at a price below the then current net asset value, or NAV, per common share during a one year period, which we refer to as the Stockholder Approval, beginning on February 16, 2012, and expiring on the first anniversary of such date. To sell shares of common stock pursuant to this authorization, no further authorization from our stockholders will be solicited but the cumulative number of common shares issued and sold pursuant to such authority can not exceed 25% of our then outstanding common stock immediately prior to such sale and a majority of our directors who have no financial interest in the sale and a majority of our independent directors must (i) find that the sale is in our best interests and in the best interests of our stockholders and (ii) in consultation with any underwriter or underwriters of the offering, make a good faith determination as of a time either immediately prior to the first solicitation by us or on our behalf of firm commitments to purchase such shares of common stock, or immediately prior to the issuance of such common stock, that the price at which such shares of common stock are to be sold is not less than a price which closely approximates the market value of those shares of common stock, less any distributing commission or discount.
Any offering of common stock below its NAV per share will be designed to raise capital for investment in accordance with our investment objective.
In making a determination that an offering of common stock below its NAV per share is in our and our stockholders’ best interests, our board of directors will consider a variety of factors including:
| • | the effect that an offering below NAV per common share would have on our common stockholders, including the potential dilution they would experience as a result of the offering; |
| • | the amount per common share by which the offering price per share and the net proceeds per share are less than our most recently determined NAV per common share; |
| • | the relationship of recent market prices of common stock to NAV per share and the potential impact of the offering on the market price per share of our common stock; |
| • | whether the estimated offering price would closely approximate the market value of shares of our common stock; |
| • | the potential market impact of being able to raise capital during the current financial market difficulties; |
| • | the nature of any new investors anticipated to acquire shares of our common stock in the offering; |
| • | the anticipated rate of return on and quality, type and availability of investments; and |
| • | the leverage available to us. |
Our board of directors will also consider the fact that sales of shares of common stock at a discount will benefit our Adviser as our Adviser will earn additional investment management fees on the proceeds of such offerings, as it would from the offering of any other of our securities or from the offering of common stock at a premium to NAV per share.
We will not sell shares of our common stock under this prospectus or an accompanying prospectus supplement pursuant to the Stockholder Approval without first filing a post-effective amendment to the registration statement if the cumulative dilution to our NAV per common share from offerings under the registration statement exceeds 15%. This would be measured separately for each offering pursuant to the registration statement by calculating the percentage dilution or accretion to aggregate NAV from that offering and then summing the percentage from each offering. For example, if our most recently determined NAV per common share at the time of the first offering is $10.00 and we have 140 million shares of common stock outstanding, the sale of 35 million shares of common stock at net proceeds to us of $5.00 per common share (a
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50% discount) would produce dilution of 10%. If we subsequently determined that our NAV per common share increased to $11.00 on the then 175 million shares of common stock outstanding and then made an additional offering, we could, for example, sell approximately an additional 43.75 million shares of common stock at net proceeds to us of $8.25 per common share, which would produce dilution of 5%, before we would reach the aggregate 15% limit. If we file a new post-effective amendment, the threshold would reset.
Sales by us of our common stock at a discount from NAV per common share pose potential risks for our existing common stockholders whether or not they participate in the offering, as well as for new investors who participate in the offering. Any sale of common stock at a price below NAV per share would result in an immediate dilution to existing common stockholders who do not participate in such sale on at least a pro-rata basis. See “Risk Factors — Risks Related to an Investment in Our Common Stock and Our Preferred Stock.”
The following three headings and accompanying tables explain and provide hypothetical examples of the impact of an offering of our common stock at a price below NAV per common share on three different types of investors:
| • | existing common stockholders who do not purchase any shares of common stock in the offering; |
| • | existing common stockholders who purchase a relatively small amount of shares of common stock in the offering or a relatively large amount of shares of common stock in the offering; and |
| • | new investors who become common stockholders by purchasing shares of common stock in the offering. |
Impact on Existing Common Stockholders Who Do Not Participate in an Offering
An existing common stockholder who does not participate in an offering below NAV per share or who does not buy additional common shares in the secondary market at the same or lower price we obtain in the offering (after expenses and commissions) face the greatest potential risks. These stockholders will experience an immediate decrease (often called dilution) in the NAV of the common shares they hold and their NAV per common share. These common stockholders will also experience a disproportionately greater decrease in their participation in our earnings and assets and their voting power than the increase we will experience in our assets, potential earning power and voting interests due to the offering. These common stockholders may also experience a decline in the market price of their shares, which often reflects to some degree announced or potential decreases in NAV per common share. This decrease could be more pronounced as the size of the offering and level of discounts increase. Further, if current common stockholders do not purchase sufficient shares of common stock to maintain their percentage interest, regardless of whether such offering is above or below the then current NAV, their voting power will be diluted.
The following table illustrates the level of NAV dilution that would be experienced by a nonparticipating common stockholder in three different hypothetical offerings of different sizes and levels of discount from NAV per common share, although it is not possible to predict the level of market price decline that may occur. Actual sales prices and discounts may differ from the presentation below.
The examples assume that we have 1,000,000 common shares outstanding, $15,000,000 in total assets and $5,000,000 in total liabilities. The current NAV and NAV per common share are thus $10,000,000 and $10.00, respectively. The table illustrates the dilutive effect on a nonparticipating common stockholder of (1) an offering of 50,000 shares of common stock (5% of the outstanding common shares) at $9.50 per common share after offering expenses and commission (a 5% discount from NAV), (2) an offering of 100,000 shares of common stock (10% of the outstanding common shares) at $9.00 per common share after offering expenses and commissions (a 10% discount from NAV) and (3) an offering of 200,000 shares of common stock (20% of the outstanding common shares) at $8.00 per common share after offering expenses and commissions (a 20% discount from NAV). The prospectus supplement pursuant to which any discounted offering is made will include a chart based on the actual number of shares of common stock in such offering and the actual discount to the most recently determined NAV.
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| Example 1 5% Offering at 5% Discount |
Example 2 10% Offering at 10% Discount |
Example 3 20% Offering at 20% Discount |
||||||||||||||||||||||||||
| Prior to Sale Below NAV |
Following Sale |
% Change |
Following Sale |
% Change |
Following Sale |
% Change |
||||||||||||||||||||||
| Offering Price |
||||||||||||||||||||||||||||
| Price per Common Share to Public |
— | $ | 10.00 | — | $ | 9.47 | — | $ | 8.42 | — | ||||||||||||||||||
| Net Proceeds per Common Share to Issuer |
— | $ | 9.50 | — | $ | 9.00 | — | $ | 8.00 | — | ||||||||||||||||||
| Decrease to NAV per Common Share |
||||||||||||||||||||||||||||
| Total Common Shares Outstanding |
1,000,000 | 1,050,000 | 5.00 | % | 1,100,000 | 10.00 | % | 1,200,000 | 20.00 | % | ||||||||||||||||||
| NAV per Common Share |
$ | 10.00 | $ | 9.98 | (0.20 | )% | $ | 9.91 | (0.90 | )% | $ | 9.67 | (3.33 | )% | ||||||||||||||
| Dilution to Common Stockholder |
||||||||||||||||||||||||||||
| Common Shares Held by Stockholder |
10,000 | 10,000 | — | 10,000 | — | 10,000 | — | |||||||||||||||||||||
| Percentage Held by Common Stockholder |
1.0 | % | 0.95 | % | (4.76 | )% | 0.91 | % | (9.09 | )% | 0.83 | % | (16.67 | )% | ||||||||||||||
| Total Asset Values |
||||||||||||||||||||||||||||
| Total NAV Held by Common Stockholder |
$ | 100,000 | $ | 99,800 | (0.20 | )% | $ | 99,100 | (0.90 | )% | $ | 96,700 | (3.33 | )% | ||||||||||||||
| Total Investment by Common Stockholder (Assumed to be $10.00 per Common Share) |
$ | 100,000 | $ | 100,000 | — | $ | 100,000 | — | $ | 100,000 | — | |||||||||||||||||
| Total Dilution to Common Stockholder (Total NAV Less Total Investment) |
— | $ | (200 | ) | — | $ | (900 | ) | — | $ | (3,300 | ) | — | |||||||||||||||
| Per Common Share Amounts |
||||||||||||||||||||||||||||
| NAV Per Common Share Held by Common Stockholder |
— | $ | 9.98 | — | $ | 9.91 | — | $ | 9.67 | — | ||||||||||||||||||
| Investment per Common Share Held by Common Stockholder (Assumed to be $10.00 per Share on Common Shares Held prior to Sale) |
$ | 10.00 | $ | 10.00 | — | $ | 10.00 | — | $ | 10.00 | — | |||||||||||||||||
| Dilution per Common Share Held by Stockholder (NAV per Common Share Less Investment per Common Share) |
— | $ | (0.02 | ) | — | $ | (0.09 | ) | — | $ | (0.33 | ) | — | |||||||||||||||
| Percentage Dilution to Common Stockholder (Dilution per Common Share Divided by Investment per Common Share) |
— | — | (0.20 | )% | — | (0.90 | )% | — | (3.33 | )% | ||||||||||||||||||
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Impact on Existing Common Stockholders Who Do Participate in an Offering
An existing common stockholder who participates in an offering below NAV per common share or who buys additional shares of common stock in the secondary market at the same or lower price as we obtain in the offering (after expenses and commissions) will experience the same types of NAV dilution as the nonparticipating common stockholders, albeit at a lower level, to the extent they purchase less than the same percentage of the discounted offering as their interest in our common shares immediately prior to the offering. The level of NAV dilution will decrease as the number of common shares such stockholders purchase increases. Existing common stockholders who buy more than such percentage will experience NAV dilution but will, in contrast to existing common stockholders who purchase less than their proportionate share of the offering, experience an increase (often called accretion) in NAV per common share over their investment per common share and will also experience a disproportionately greater increase in their participation in our earnings and assets and their voting power than our increase in assets, potential earning power and voting interests due to the offering. The level of accretion will increase as the excess number of shares such common stockholder purchases increases. Even a common stockholder who over-participates will, however, be subject to the risk that we may make additional discounted offerings in which such common stockholder does not participate, in which case such a stockholder will experience NAV dilution as described above in such subsequent offerings. These stockholders may also experience a decline in the market price of their common shares, which often reflects to some degree announced or potential decreases in NAV per share. This decrease could be more pronounced as the size of the offering and level of discount to NAV increases.
The following chart illustrates the level of dilution and accretion in the hypothetical 20% discount offering from the prior chart for a common stockholder that acquires shares of common stock equal to (1) 50% of its proportionate share of the offering (i.e., 1,000 common shares, which is 0.50% of the offering 200,000 common shares rather than its 1% proportionate share) and (2) 150% of such percentage (i.e., 3,000 common shares, which is 1.50% of an offering of 200,000 common shares rather than its 1% proportionate share). The prospectus supplement pursuant to which any discounted offering is made will include a chart for this example based on the actual number of common shares in such offering and the actual discount from the most recently determined NAV per common share. It is not possible to predict the level of market price decline that may occur.
| 50% Participation | 150% Participation | |||||||||||||||||||
| Prior to Sale Below NAV |
Following Sale |
% Change |
Following Sale |
% Change |
||||||||||||||||
| Offering Price |
||||||||||||||||||||
| Price per Common Share to Public |
— | $ | 8.42 | — | $ | 8.42 | — | |||||||||||||
| Net Proceeds per Common Share to Issuer |
— | $ | 8.00 | — | $ | 8.00 | — | |||||||||||||
| Increases in Common Shares and Decrease to NAV per Common Share |
||||||||||||||||||||
| Total Common Shares Outstanding |
1,000,000 | 1,200,000 | 20.00 | % | 1,200,000 | 20.00 | % | |||||||||||||
| NAV per Common Share |
$ | 10.00 | $ | 9.67 | (3.33 | )% | $ | 9.67 | (3.33 | )% | ||||||||||
| Dilution/Accretion to Common Stockholder |
||||||||||||||||||||
| Common Shares Held by Stockholder |
10,000 | 11,000 | 10.00 | % | 13,000 | 30.00 | % | |||||||||||||
| Percentage Held by Common Stockholder |
1.0 | % | 0.92 | % | (8.33 | )% | 1.08 | % | 8.33 | % | ||||||||||
| Total Asset Values |
||||||||||||||||||||
| Total NAV Held by Common Stockholder |
$ | 100,000 | $ | 106,333 | 6.33 | % | $ | 125,667 | 25.67 | % | ||||||||||
| Total Investment by Common Stockholder (Assumed to be $10.00 per Share on Common Shares Held prior to Sale) |
$ | 100,000 | $ | 108,420 | — | $ | 125,260 | — | ||||||||||||
| Total Dilution/Accretion to Common Stockholder (Total NAV Less Total Investment) |
— | (2,087 | ) | — | $ | 407 | — | |||||||||||||
| Per Common Share Amounts |
||||||||||||||||||||
| NAV Per Common Share Held by Common Stockholder |
— | $ | 9.67 | — | $ | 9.67 | — | |||||||||||||
| Investment per Common Share Held by Stockholder (Assumed to be $10.00 per Share on Common Shares Held prior to Sale) |
$ | 10.00 | $ | 9.86 | (1.44 | )% | $ | 9.64 | (3.65 | )% | ||||||||||
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| 50% Participation | 150% Participation | |||||||||||||||||||
| Prior to Sale Below NAV |
Following Sale |
% Change |
Following Sale |
% Change |
||||||||||||||||
| Dilution/Accretion per Common Share Held by Stockholder (NAV per Common Share Less Investment per Common Share) |
— | $ | (0.19 | ) | — | $ | 0.03 | — | ||||||||||||
| Percentage Dilution/Accretion to Common Stockholder (Dilution/Accretion per Common Share Divided by Investment per Common Share) |
— | — | (1.92 | )% | — | 0.32 | % | |||||||||||||
Impact on New Investors in Common Stock
Investors who are not currently stockholders, but who participate in an offering below NAV and whose investment per common share is greater than the resulting NAV per share (due to selling compensation and expenses paid by us) will experience an immediate decrease, albeit small, in the NAV of their shares and their NAV per share compared to the price they pay for their shares of common stock. Investors who are not currently stockholders and who participate in an offering below NAV per common share and whose investment per common share is also less than the resulting NAV per common share due to selling compensation and expenses paid by the issuer being significantly less than the discount per common share will experience an immediate increase in the NAV of their shares and their NAV per share compared to the price they pay for their shares of common stock. These investors will experience a disproportionately greater participation in our earnings and assets and their voting power than our increase in assets, potential earning power and voting interests. These investors will, however, be subject to the risk that we may make additional discounted offerings in which such new common stockholder does not participate, in which case such new stockholder will experience dilution as described above in such subsequent offerings. These investors may also experience a decline in the market price of their shares of common stock, which often reflects to some degree announced or potential decreases in NAV per share. This decrease could be more pronounced as the size of the offering and level of discounts increases.
The following chart illustrates the level of dilution or accretion for new investors that would be experienced by a new investor in the same 5%, 10% and 20% discounted offerings as described in the first chart above. The illustration is for a new investor who purchases the same percentage (1%) of the common shares in the offering as the common stockholder in the prior examples held immediately prior to the offering. The prospectus supplement pursuant to which any discounted offering is made will include a chart for this example based on the actual number of common shares in such offering and the actual discount from the most recently determined NAV per common share. It is not possible to predict the level of market price decline that may occur.
| Example 1 5% Offering at 5% Discount |
Example 2 10% Offering at 10% Discount |
Example 3 20% Offering at 20% Discount |
||||||||||||||||||||||||||
| Prior to Sale Below NAV |
Following Sale |
% Change |
Following Sale |
% Change |
Following Sale |
% Change |
||||||||||||||||||||||
| Offering Price |
||||||||||||||||||||||||||||
| Price per Common Share to Public |
— | $ | 10.00 | — | $ | 9.47 | — | $ | 8.42 | — | ||||||||||||||||||
| Net Proceeds per Common Share to Issuer |
— | $ | 9.50 | — | $ | 9.00 | — | $ | 8.00 | — | ||||||||||||||||||
| Decrease to NAV per Common Share |
||||||||||||||||||||||||||||
| Total Common Shares Outstanding |
1,000,000 | 1,050,000 | 5.00 | % | 1,100,000 | 10.00 | % | 1,200,000 | 20.00 | % | ||||||||||||||||||
| NAV per Common Share |
$ | 10.00 | $ | 9.98 | (0.20 | )% | $ | 9.91 | (0.90 | )% | $ | 9.67 | (3.33 | )% | ||||||||||||||
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| Example 1 5% Offering at 5% Discount |
Example 2 10% Offering at 10% Discount |
Example 3 20% Offering at 20% Discount |
||||||||||||||||||||||||||
| Prior to Sale Below NAV |
Following Sale |
% Change |
Following Sale |
% Change |
Following Sale |
% Change |
||||||||||||||||||||||
| Dilution/Accretion to Common Stockholder |
||||||||||||||||||||||||||||
| Common Shares Held by Stockholder |
— | 500 | — | 1,000 | — | 2,000 | — | |||||||||||||||||||||
| Percentage Held by Common Stockholder |
0.0 | % | 0.05 | % | — | 0.09 | % | — | 0.17 | % | — | |||||||||||||||||
| Total Asset Values |
||||||||||||||||||||||||||||
| Total NAV Held by Common Stockholder |
— | $ | 4,990 | — | $ | 9,910 | — | $ | 19,340 | — | ||||||||||||||||||
| Total Investment by Common Stockholder |
— | $ | 5,000 | — | $ | 9,470 | — | $ | 16,840 | — | ||||||||||||||||||
| Total Dilution/Accretion to Common Stockholder (Total NAV Less Total Investment) |
— | $ | (10 | ) | — | $ | 440 | — | $ | 2,500 | — | |||||||||||||||||
| Per Common Share Amounts |
||||||||||||||||||||||||||||
| NAV Per Common Share Held by Common Stockholder |
— | $ | 9.98 | — | $ | 9.91 | — | $ | 9.67 | — | ||||||||||||||||||
| Investment per Common Share Held by Common Stockholder |
— | $ | 10.00 | — | $ | 9.47 | — | $ | 8.42 | — | ||||||||||||||||||
| Dilution/Accretion per Common Share Held by Stockholder (NAV per Common Share Less Investment per Common Share) |
— | $ | (0.02 | ) | — | $ | 0.44 | — | $ | 1.25 | — | |||||||||||||||||
| Percentage Dilution/Accretion to Common Stockholder (Dilution/Accretion per Common Share Divided by Investment per Common Share) |
— | — | (0.20 | )% | — | 4.65 | % | — | 14.85 | % | ||||||||||||||||||
Information about our senior securities is shown in the following table for the audited periods as of September 30, 2011, 2010, 2009, 2008, 2007, 2006, 2005, 2004, 2003, 2002 and 2001 and for the unaudited period as of December 31, 2011. The information has been derived from our audited financial statement for each respective period, which have been audited by PricewaterhouseCoopers LLP, our independent registered public accounting firm.
| Class and Year |
Total
Amount Outstanding Exclusive of Treasury Securities(1) |
Asset Coverage per Unit(2) |
Involuntary Liquidating Preference per Unit(3) |
Average Market Value per Unit(4) |
||||||||||||
| Revolving Credit Facilities |
||||||||||||||||
| December 31, 2011 (unaudited) |
$ | 56,900,000 | $ | 3,179 | $ | — | N/A | |||||||||
| September 30, 2011 |
99,400,000 | 3,144 | — | N/A | ||||||||||||
| September 30, 2010 |
16,800,000 | 14,187 | — | N/A | ||||||||||||
| September 30, 2009 |
83,000,000 | 3,963 | — | N/A | ||||||||||||
| September 30, 2008 |
151,030,000 | 2,792 | — | N/A | ||||||||||||
| September 30, 2007 |
144,440,000 | 2,524 | — | N/A | ||||||||||||
| September 30, 2006 |
49,993,000 | 4,435 | — | N/A | ||||||||||||
| September 30, 2005 |
53,034,000 | 3,849 | — | N/A | ||||||||||||
| September 30, 2004 |
40,744,000 | 3,452 | — | N/A | ||||||||||||
| September 30, 2003 |
— | N/A | — | N/A | ||||||||||||
| September 30, 2002 |
— | N/A | — | N/A | ||||||||||||
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| Class and Year |
Total Amount Outstanding Exclusive of Treasury Securities(1) |
Asset Coverage per Unit(2) |
Involuntary Liquidating Preference per Unit(3) |
Average Market Value per Unit(4) |
||||||||||||
| September 30, 2001 |
— | N/A | — | N/A | ||||||||||||
| Series 2016 Term Preferred Stock (5) |
||||||||||||||||
| December 31, 2011 (unaudited) |
$ | 38,497,000 | $ | 3,179 | $ | — | $ | 25.26 | ||||||||
| September 30, 2011 |
— | N/A | — | N/A | ||||||||||||
| September 30, 2010 |
— | N/A | — | N/A | ||||||||||||
| September 30, 2009 |
— | N/A | — | N/A | ||||||||||||
| September 30, 2008 |
— | N/A | — | N/A | ||||||||||||
| September 30, 2007 |
— | N/A | — | N/A | ||||||||||||
| September 30, 2006 |
— | N/A | — | N/A | ||||||||||||
| September 30, 2005 |
— | N/A | — | N/A | ||||||||||||
| September 30, 2004 |
— | N/A | — | N/A | ||||||||||||
| September 30, 2003 |
— | N/A | — | N/A | ||||||||||||
| September 30, 2002 |
— | N/A | — | N/A | ||||||||||||
| September 30, 2001 |
— | N/A | — | N/A | ||||||||||||
| Repurchase Agreements |
||||||||||||||||
| December 31, 2011 (unaudited) |
— | N/A | — | N/A | ||||||||||||
| September 30, 2011 |
— | N/A | — | N/A | ||||||||||||
| September 30, 2010 |
— | N/A | — | N/A | ||||||||||||
| September 30, 2009 |
— | N/A | — | N/A | ||||||||||||
| September 30, 2008 |
— | N/A | — | N/A | ||||||||||||
| September 30, 2007 |
— | N/A | — | N/A | ||||||||||||
| September 30, 2006 |
— | N/A | — | N/A | ||||||||||||
| September 30, 2005 |
— | N/A | — | N/A | ||||||||||||
| September 30, 2004 |
21,346,000 | 3,452 | — | N/A | ||||||||||||
| September 30, 2003 |
78,449,000 | 2,667 | — | N/A | ||||||||||||
| September 30, 2002 |
39,199,000 | 4,333 | — | N/A | ||||||||||||
| September 30, 2001 |
— | N/A | — | N/A | ||||||||||||
| (1) | Total amount of each class of senior securities outstanding at the end of the period presented |
| (2) | Asset coverage ratio is the ratio of the carrying value of our total consolidated assets, less all liabilities and indebtedness not represented by senior securities, to the aggregate amount of senior securities representing indebtedness (including interest payable and guarantees). Asset coverage per unit is the asset coverage ratio expressed in terms of dollar amounts per one thousand dollars of indebtedness. |
| (3) | The amount to which such class of senior security would be entitled upon the involuntary liquidation of the issuer in preference to any security junior to it. |
| (4) | Not applicable because senior securities are not registered for public trading (with the exception of our Series 2016 Term Preferred Stock). |
| (5) | In November 2011, we issued 1,539,882 shares of Series 2016 Term Preferred Stock through a public offering and subsequent exercise of an overallotment option. As of December 31, 2011, we had $38.5 million outstanding of Series 2016 Term Preferred Stock. |
Overview
We were incorporated under the General Corporation Laws of the State of Maryland on May 30, 2001 and completed our initial public offering on August 24, 2001. We operate as a closed-end, non-diversified management investment company and we have elected to be treated as a business development company (“BDC”) under the Investment Company Act of 1940, as amended (the “1940 Act”). For federal income tax
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purposes, we have elected to be treated as a regulated investment company (“RIC”) under Subchapter M of the Internal Revenue Code of 1986, as amended (the “Code”). We currently continue to qualify as a RIC for federal income tax purposes and obtain favorable RIC tax treatment by meeting certain requirements, including certain minimum distribution requirements.
We were established to achieve a high level of current income by investing in debt securities, consisting primarily of senior notes and senior subordinated notes, of established private United States (“U.S.”) businesses that are substantially owned by leveraged buyout funds, individual investors or are family-owned businesses, with a particular focus on senior notes. In addition, we may acquire from others existing loans that meet this profile. We also seek to provide our stockholders with long-term capital growth through appreciation in the value of warrants or other equity instruments that we may receive when we make loans.
We seek to invest in small and medium-sized private U.S. businesses that meet certain criteria, including some but not necessarily all of the following: the potential for growth in cash flow, adequate assets for loan collateral, experienced management teams with a significant ownership interest in the borrower, profitable operations based on the borrower’s cash flow, reasonable capitalization of the borrower (usually by leveraged buyout funds or venture capital funds) and the potential to realize appreciation and gain liquidity in our equity positions, if any. We anticipate that liquidity in our equity position will be achieved through a merger or acquisition of the borrower, a public offering of the borrower’s stock or by exercising our right to require the borrower to repurchase our warrants. However, there can be no assurance that we will always have these rights. We lend to borrowers that need funds to finance growth, restructure their balance sheets or effect a change of control. We invest either by ourselves or jointly with other funds or management of the borrower, depending on the opportunity. If we are participating in an investment with one or more co-investors, our investment is likely to be smaller than if we were to investing alone. Our loans typically range from $5 million to $20 million and generally mature in no more than seven years.
We expect that our target portfolio over time will primarily include the following three categories of investments in private U.S. companies:
| • | Senior Loans. We seek to invest a portion of our assets in senior notes of borrowers. Using its assets as collateral, the borrower typically uses senior notes to cover a substantial portion of the funding needed to operate. The collateral usually takes the form of first priority liens on the assets of the portfolio company. Senior lenders are exposed to the least risk of all providers of debt because they command a senior position with respect to scheduled interest and principal payments and assets of the borrower. However, unlike senior subordinated lenders, these senior lenders typically do not receive any stock, warrants to purchase stock of the borrowers or other yield enhancements. As such, they generally do not participate in the equity appreciation of the value of the business. Senior notes may include revolving lines of credit, senior term loans, senior syndicated loans and senior last-out tranche loans and generally are at variable interest rates in relation to the London Interbank Offered Rate (“LIBOR”). These loans typically are structured with interest rate floors to protect against declining interest rates. |
| • | Senior Subordinated Loans. We seek to invest a portion of our assets in senior subordinated notes, which include second lien notes. Holders of senior subordinated notes, which are typically unsecured, are subordinated to the rights of holders of senior debt in their right to receive principal and interest payments or, in the case of last out tranches of senior debt, liquidation proceeds from the borrower. As a result, senior subordinated notes are riskier than senior notes. Although such loans are sometimes secured by significant collateral (assets of the borrower), the lender is largely dependent on the borrower’s cash flow for repayment. Additionally, lenders may receive warrants to acquire shares of stock in borrowers or other yield enhancements in connection with these loans. Senior subordinated notes include second lien loans and syndicated second lien loans. We typically structure these senior subordinated loans with variable interest rates in relation to the LIBOR with interest rate floors to protect against declining interest rates. |
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| • | Junior Subordinated Loans: We also seek to invest a small portion of our assets in junior subordinated notes, which include mezzanine notes. Holders of junior subordinated notes are subordinated to the rights of the holders of senior debt and senior subordinated debt in their rights to receive principal and interest payments from the borrower and the assets of the borrower. The risk profile of junior subordinated notes is high, which permits the junior subordinated lender to obtain higher variable interest rates and more equity and equity-like compensation. |
| • | Preferred and Common Equity/Equivalents: While not a primary focus of our investment portfolio strategy, from time to time we also receive yield enhancements in connection with some of our loans, which include warrants to purchase stock or success fees. A portion of our portfolio consists of equity investments that were part of a larger initial investment in a private company. Additionally, we also have equity investments derived from restructurings on some of our investments. |
Because the majority of the loans in our portfolio consist of term debt of private companies that typically cannot or will not expend the resources to have their debt securities rated by a credit rating agency, we expect that most, if not all, of the debt securities we acquire will be unrated. Investors should assume that these loans would be rates below what is today considered “investment grade” quality. Investments rated below investment grade are often referred to as high yield securities or junk bonds and may be considered high risk as compared to investment-grade debt instruments.
Investment Concentrations
As of December 31, 2011, our portfolio consisted of loans to 57 companies in 27 states in 23 different industries with an aggregate fair value of $292.8 million. As of December 31, 2011, there were 24 syndicated investments totaling $90.3 million at cost and $89.2 million at fair value, or 24.4% and 30.5% of the total aggregate portfolio, respectively. Since our initial public offering in 2001, we have invested in over 153 different companies, while making over 101 consecutive distributions to common stockholders.
As of December 31, 2011, approximately 69.3% of the aggregate fair value of our portfolio was comprised of senior term debt, 28.0% was senior subordinated term debt and 2.7% was in equity securities. The following table outlines our investments by security type as of December 31 and September 30, 2011:
| (Dollars in thousands) | December 31, 2011 | September 30, 2011 | ||||||||||||||
| Cost | Fair Value | Cost | Fair Value | |||||||||||||
| Senior term debt |
$ | 256,891 | $ | 192,821 | $ | 266,491 | $ | 200,145 | ||||||||
| Senior subordinated term debt |
103,795 | 88,004 | 107,140 | 92,148 | ||||||||||||
| Common equity/equivalents |
6,264 | 11,440 | 7,999 | 10,088 | ||||||||||||
| Preferred equity |
3,520 | 581 | 1,185 | 566 | ||||||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| Total investments |
$ | 370,470 | $ | 292,846 | $ | 382,815 | $ | 302,947 | ||||||||
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|
|
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Investments at fair value consisted of the following industry classifications at December 31 and September 30, 2011:
| (Dollars in thousands) | December 31, 2011 | September 30, 2011 | ||||||||||||||
| Industry Classification |
Fair Value | Percentage
of Total Investments |
Fair Value | Percentage
of Total Investments |
||||||||||||
| Electronics |
$ | 45,621 | 15.6 | % | $ | 45,752 | 15.1 | % | ||||||||
| Mining, steel, iron & non-precious metals |
34,430 | 11.8 | 33,734 | 11.1 | ||||||||||||
| Healthcare, education & childcare |
34,261 | 11.7 | 34,106 | 11.3 | ||||||||||||
| Automobile |
26,793 | 9.1 | 25,768 | 8.5 | ||||||||||||
| Broadcast (TV & radio) |
23,855 | 8.1 | 28,194 | 9.3 | ||||||||||||
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| (Dollars in thousands) | December 31, 2011 | September 30, 2011 | ||||||||||||||
| Industry Classification |
Fair Value | Percentage
of Total Investments |
Fair Value | Percentage
of Total Investments |
||||||||||||
| Retail stores |
$ | 19,415 | 6.6 | % | $ | 19,340 | 6.4 | % | ||||||||
| Aerospace & defense |
15,133 | 5.2 | 10,003 | 3.3 | ||||||||||||
| Printing & publishing |
14,766 | 5.0 | 17,623 | 5.8 | ||||||||||||
| Textiles & leather |
9,602 | 3.3 | 9,626 | 3.2 | ||||||||||||
| Diversified/conglomerate manufacturing |
8,847 | 3.0 | 8,790 | 2.9 | ||||||||||||
| Machinery |
8,145 | 2.8 | 8,696 | 2.9 | ||||||||||||
| Buildings & real estate |
7,814 | 2.7 | 10,275 | 3.4 | ||||||||||||
| Personal, food and miscellaneous services |
7,761 | 2.7 | 7,635 | 2.5 | ||||||||||||
| Beverage, food & tobacco |
7,313 | 2.5 | 7,332 | 2.4 | ||||||||||||
| Personal & non-durable consumer products |
6,589 | 2.2 | 6,962 | 2.3 | ||||||||||||
| Leisure, amusement, movies & entertainment |
6,010 | 2.1 | 6,607 | 2.2 | ||||||||||||
| Home & office furnishings |
3,840 | 1.3 | 9,715 | 3.2 | ||||||||||||
| Diversified/conglomerate service |
3,800 | 1.3 | 3,810 | 1.3 | ||||||||||||
| Diversified natural resources, precious metals & minerals |
2,994 | 1.0 | 3,054 | 1.0 | ||||||||||||
| Other (A) |
5,857 | 2.0 | 5,925 | 1.9 | ||||||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| Total investments |
$ | 292,846 | 100. | % | $ | 302,947 | 100.0 | % | ||||||||
|
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|
|
|
|
|
|
|
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| (A) | No individual industry within this category exceeds 1%. |
The investments at fair value were included in the following geographic regions of the United States at December 31 and September 30, 2011:
| (Dollars in thousands) | December 31, 2011 | September 30, 2011 | ||||||||||||||
| Geographic Region |
Fair Value | Percentage
of Total Investments |
Fair Value | Percent of Total Investments |
||||||||||||
| Midwest |
$ | 139,088 | 47.5 | % | $ | 144,292 | 47.6 | % | ||||||||
| West |
70,798 | 24.2 | 70,862 | 23.4 | ||||||||||||
| South |
49,372 | 16.8 | 52,265 | 17.3 | ||||||||||||
| Northeast |
26,268 | 9.0 | 28,158 | 9.3 | ||||||||||||
| Other |
7,320 | 2.5 | 7,370 | 2.4 | ||||||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| Total Investments |
$ | 292,846 | 100.0 | % | $ | 302,947 | 100.0 | % | ||||||||
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The geographic region reflects the location of the headquarters for our portfolio companies. A portfolio company may have a number of other business locations in other geographic regions.
Our Investment Adviser and Administrator
Gladstone Management Corporation (our “Adviser”) is our affiliate, investment adviser, and a privately-held company led by a management team which has extensive experience in our lines of business. Our Adviser’s affiliate, a privately-held company, Gladstone Administration, LLC (our “Administrator”), employs our chief financial officer, chief compliance officer, internal legal counsel and their respective staffs. Excluding our chief financial officer, all of our executive officers serve as directors or executive officers, or both, of the following of our affiliates: Gladstone Commercial Corporation (“Gladstone Commercial”), a publicly-traded real estate investment trust; Gladstone Investment Corporation (“Gladstone Investment”), a publicly-traded BDC and RIC; our Adviser; and our Administrator.
Our Adviser and Administrator also provide investment advisory and administrative services, respectively, to our affiliates, including Gladstone Commercial; Gladstone Investment; Gladstone Partners Fund, L.P., a
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private partnership fund formed primarily to co-invest with us and Gladstone Investment; Gladstone Land Corporation, a private agricultural real estate company owned by David Gladstone, our chairman and chief executive officer; Gladstone Securities, LLC (“Gladstone Securities”), a privately-held broker-dealer registered with the Financial Industry Regulatory Authority (“FINRA”) and insured by the Securities Investor Protection Corporation; and Gladstone Lending Corporation (“Gladstone Lending”), a private corporation that was formed to primarily invest in first and second lien term loans that has filed a registration statement on Form N-2 with the Securities and Exchange Commission (the “SEC”), but which has not yet commenced operations. Our chief executive officer also serves on the board of managers of Gladstone Securities. Our Adviser and Administrator may provide investment advisory and administrative services, respectively, to other funds and companies, both public and private.
We have been externally managed by our Adviser pursuant to an investment advisory agreement since October 1, 2004. Our Adviser was organized as a corporation under the laws of the State of Delaware on July 2, 2002, and is a registered investment adviser under the Investment Advisers Act of 1940, as amended. Our Adviser is headquartered in McLean, Virginia, a suburb of Washington, D.C., and also has offices in several other states.
Corporate Information
Our executive offices are located at 1521 Westbranch Drive, Suite 200, McLean, Virginia 22102 and our telephone number is (703) 287-5800. Our corporate website is located at www.gladstonecapital.com. Our website and the information contained therein or connected thereto shall not be deemed to be incorporated into this prospectus or the registration statement of which it forms a part.
Our Investment Strategy
Our strategy is to make loans at favorable interest rates to small and medium-sized businesses. Our Adviser uses the loan referral networks of Mr. David Gladstone, our chairman and chief executive officer, Mr. Terry Brubaker, our vice chairman, chief operating officer and secretary, and Mr. George Stelljes III, our president and chief investment officer, and of its managing directors to identify and make senior and subordinated loans to borrowers that need funds to finance growth, restructure their balance sheets or effect a change of control. We believe that our business strategy will enable us to achieve a high level of current income by investing in debt securities, consisting primarily of senior notes, senior subordinated notes and junior subordinated notes of established private businesses that are backed by leveraged buyout funds, venture capital funds or others. In addition, from time to time we might acquire existing loans that meet this profile from leveraged buyout funds, venture capital funds and others. We also seek to provide our stockholders with long-term capital growth through the appreciation in the value of warrants or other equity instruments that we might receive when we make loans.
We target small and medium-sized private businesses that meet certain criteria, including some but not necessarily all of the following: the potential for growth in cash flow, adequate assets for loan collateral, experienced management teams with a significant ownership interest in the borrower, profitable operations based on the borrower’s cash flow, reasonable capitalization of the borrower (usually by leveraged buyout funds or venture capital funds) and the potential to realize appreciation and gain liquidity in our equity position, if any. We may achieve liquidity in an equity position through a merger or acquisition of the borrower, a public offering of the borrower’s stock or by exercising our right to require the borrower to repurchase our warrants, although we cannot assure you that we will always have these rights. We can also achieve a similar effect by requiring the borrower to pay us conditional interest, which we refer to as a success fee, upon the occurrence of certain events. Success fees are dependent upon the success of the borrower and the occurrence of a triggering event, and are paid in lieu of warrants to purchase common stock of the borrower.
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Investment Process
Overview of Investment and Approval Process
To originate investments, our Adviser’s investment professionals use an extensive referral network comprised primarily of venture capitalists, leveraged buyout funds, investment bankers, attorneys, accountants, commercial bankers and business brokers. Our Adviser’s investment professionals review informational packages from these and other sources in search of potential financing opportunities. If a potential opportunity matches our investment objectives, the investment professionals will seek an initial screening of the opportunity from our Adviser’s investment committee which is composed of Messrs. Gladstone, Brubaker and Stelljes. If the prospective portfolio company passes this initial screening, the investment professionals conduct a due diligence investigation and create a detailed profile summarizing the prospective portfolio company’s historical financial statements, industry and management team and analyzing its conformity to our general investment criteria. The investment professionals then present this profile to our Adviser’s investment committee, which must approve each investment. Further, each financing is available for review by the members of our Board of Directors, a majority of whom are not “interested persons” as defined in Section 2(a)(19) of the 1940 Act.
Prospective Portfolio Company Characteristics
We have identified certain characteristics that we believe are important in identifying and investing in prospective portfolio companies. The criteria listed below provide general guidelines for our investment decisions, although not all of these criteria may be met by each portfolio company.
| • | Value-and-Income Orientation and Positive Cash Flow. Our investment philosophy places a premium on fundamental analysis from an investor’s perspective and has a distinct value-and-income orientation. In seeking value, we focus on companies in which we can invest at relatively low multiples of earnings before interest, taxes, depreciation and amortization (“EBITDA”), and that have positive operating cash flow at the time of investment. In seeking income, we seek to invest in companies that generate relatively stable and high percentage of sales and cash flow to provide some assurance that they will be able to service their debt and pay any required distributions on preferred stock. Typically, we do not expect to invest in start-up companies or companies with speculative business plans. |
| • | Experienced Management. We generally require that our portfolio companies have experienced management teams. We also require the portfolio companies to have in place proper incentives to induce management to succeed and act in concert with our interests as investors, including having significant equity or other interests in the financial performance of their companies. |
| • | Strong Competitive Position in an Industry. We seek to invest in target companies that have developed strong market positions within their respective markets and that we believe are well-positioned to capitalize on growth opportunities. We seek companies that demonstrate significant competitive advantages versus their competitors, which we believe will help to protect their market positions and profitability. |
| • | Exit Strategy. We seek to invest in companies that we believe will provide a stable stream of earnings and cash flow that is sufficient to repay the loans we make to them and to reinvest in their respective businesses. We expect that such internally generated cash flow, which will allow our portfolio companies to pay interest on, and repay the principal of, our investments, will be a key means by which we exit from our investments over time. In addition, we also seek to invest in companies whose business models and expected future cash flows offer attractive possibilities for capital appreciation on any equity interests we may obtain or retain. These capital appreciation possibilities include strategic acquisitions by other industry participants or financial buyers, initial public offerings of common stock, or other capital market transactions. |
Liquidation Value of Assets. The prospective liquidation value of the assets, if any, collateralizing loans in which we invest is an important factor in our investment analysis. We emphasize both tangible assets, such as accounts receivable, inventory, equipment, and real estate and intangible assets, such as intellectual property, customer lists, networks, databases, although the relative weight we place on these assets will vary by company and industry.
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Extensive Due Diligence
Our Adviser conducts what we believe are extensive due diligence investigations of our prospective portfolio companies and investment opportunities. The due diligence investigation may begin with a review of publicly available information and will generally include some or all of the following:
| • | a review of the prospective portfolio company’s historical and projected financial information; |
| • | visits to the prospective portfolio company’s business site(s); |
| • | interviews with the prospective portfolio company’s management, employees, customers and vendors; |
| • | review of loan documents; |
| • | background checks on the prospective portfolio company’s management team; and |
| • | research on the prospective portfolio company’s products, services or particular industry. |
Upon completion of a due diligence investigation and a decision to proceed with an investment, our Adviser’s investment professionals who have primary responsibility for the investment present the investment opportunity to our Adviser’s investment committee. The investment committee determines whether to pursue the potential investment. Additional due diligence of a potential investment may be conducted on our behalf by attorneys and independent accountants, as well as other outside advisers, prior to the closing of the investment, as appropriate.
We also rely on the long-term relationships that our Adviser’s investment professionals have with venture capitalists, leveraged buyout funds, investment bankers, commercial bankers, private equity sponsors, and business brokers. In addition, the extensive direct experience of our executive officers and managing directors in the operations of and providing debt and equity capital to small and medium-sized private businesses plays a significant role in our investment evaluation and assessment of risk.
Investment Structure
Once we have determined that a prospective acquisition, buyout or recapitalization meets our standards and investment criteria, we work with the management of that company and other capital providers to structure the transaction in a way that we believe will provide us with the greatest opportunity to maximize our return on the investment, while appropriately incentivizing company management. As discussed above, the capital classes through which we typically structure a deal include subordinated and mezzanine debt, senior secured debt and preferred and common equity. Through our risk management process, we seek to limit the downside risk of our investments by:
| • | making investments with an expected total return (including both interest and potential equity appreciation) that we believe compensates us for the credit risk of the investment; |
| • | seeking collateral or superior positions in the portfolio company’s capital structure where possible; |
| • | incorporating put rights and call protection into the investment structure where possible; and |
| • | negotiating covenants in connection with our investments that afford our portfolio companies as much flexibility as possible in managing their businesses, consistent with the preservation of our capital. |
We expect to hold most of our investments in subordinated debt, mezzanine debt or equity interests until maturity or repayment, but may sell our investments earlier if a liquidity event takes place, such as the sale or recapitalization of a portfolio company or, in the case of an equity investment in a company, its initial public offering.
Hedging Strategies
Although it has not yet happened, nor do we expect it to happen in the near future, if one of our portfolio companies goes public, we may undertake hedging strategies with regard to any equity interests that we may
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have in that company. We may mitigate risks associated with the volatility of publicly-traded securities by, for example, selling securities short or writing or buying call or put options. Hedging against a decline in the value of such investments in public companies would not eliminate fluctuations in the values of such investments or prevent losses if the values of such investments decline, but would establish or enhance a hedging strategy to seek to protect our investment in such securities. Therefore, by engaging in hedging transactions, we seek to moderate the decline in the value of our hedged investments in public companies. However, such hedging transactions would also limit our opportunity to gain from an increase in the value of our investment in the public company. In the future, we may enter into hedging transactions, such as interest rate cap agreements, in connection with the borrowings that we make under our line of credit. We currently do not hold any interest rate cap agreements, although we have done so in the past. Hedging strategies can pose risks to us and our stockholders; however we believe that such activities are manageable because they will be limited to only a portion of our portfolio.
Section 12(a)(3) of the 1940 Act prohibits us from effecting a short sale of any security “in contravention of such rules and regulations or orders as the [SEC] may prescribe as necessary or appropriate in the public interest or for the protection of investors . . .” However, to date, the SEC has not promulgated regulations under this statute. It is possible that such regulations could be promulgated in the future in a way that would require us to change any hedging strategies that we may adopt. In addition, our ability to engage in short sales may be limited by the 1940 Act’s leverage limitations. We will only engage in hedging activities in compliance with applicable laws and regulations.
Competitive Advantages
A large number of entities compete with us and make the types of investments that we seek to make in small and medium-sized privately-owned businesses. Such competitors include private equity funds, leveraged buyout funds, venture capital funds, investment banks and other equity and non-equity based investment funds, and other financing sources, including traditional financial services companies such as commercial banks. Many of our competitors are substantially larger than we are and have considerably greater funding sources that are not available to us. In addition, certain of our competitors may have higher risk tolerances or different risk assessments, which could allow them to consider a wider variety of investments, establish more relationships and build their market shares. Furthermore, many of these competitors are not subject to the regulatory restrictions that the 1940 Act imposes on us as a BDC. However, we believe that we have the following competitive advantages over other providers of financing to small and mid-sized businesses.
Management Expertise
David Gladstone, our chairman and chief executive officer, is also the chairman and chief executive officer of our Adviser and its affiliated companies, (the “Gladstone Companies”), and has been involved in all aspects of the Gladstone Companies’ investment activities, including serving as a member of our Adviser’s investment committee. Terry Lee Brubaker is our vice chairman, chief operating officer and secretary, and has substantial experience in acquisitions and operations of companies. George Stelljes III is our president and chief investment officer and has extensive experience in leveraged finance. Messrs. Gladstone, Brubaker and Stelljes have principal management responsibility for our Adviser constituting the majority of its senior executive officers. These individuals dedicate a significant portion of their time to managing our investment portfolio. Our senior management has extensive experience providing capital to small and mid-sized companies and has worked together for more than 10 years. In addition, we have access to the resources and expertise of our Adviser’s investment professionals and supporting staff who possess a broad range of transactional, financial, managerial and investment skills.
Increased Access to Investment Opportunities Developed Through Proprietary Research Capability and an Extensive Network of Contacts
Our Adviser seeks to identify potential investments both through active origination and due diligence and through its dialogue with numerous management teams, members of the financial community and potential corporate partners with whom our Adviser’s investment professionals have long-term relationships. We believe
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that our Adviser’s investment professionals have developed a broad network of contacts within the investment, commercial banking, private equity and investment management communities, and that their reputation in investment management enables us to identify well-positioned prospective portfolio companies which provide attractive investment opportunities. Additionally, our Adviser expects to generate information from its professionals’ network of accountants, consultants, lawyers and management teams of portfolio companies and other companies.
Disciplined, Value and Income-Oriented Investment Philosophy with a Focus on Preservation of Capital
In making its investment decisions, our Adviser focuses on the risk and reward profile of each prospective portfolio company, seeking to minimize the risk of capital loss without foregoing the potential for capital appreciation. We expect our Adviser to use the same value and income-oriented investment philosophy that its professionals use in the management of the other Gladstone Companies and to commit resources to management of downside exposure. Our Adviser’s approach seeks to reduce our risk in investments by using some or all of the following approaches:
| • | focusing on companies with good market positions and good cash flow; |
| • | investing in businesses with experienced and established management teams; |
| • | engaging in extensive due diligence from the perspective of a long-term investor; |
| • | investing at low price-to-cash flow multiples; and |
| • | adopting flexible transaction structures by drawing on the experience of the investment professionals of our Adviser and its affiliates. |
Longer Investment Horizon with Attractive Publicly-traded Model
Unlike private equity and venture capital funds that are typically organized as finite-life partnerships, we are not subject to standard periodic capital return requirements. The partnership agreements of most private equity and venture capital funds typically provide that these funds may only invest investors’ capital once and must return all capital and realized gains to investors within a finite time period, often seven to ten years. These provisions often force private equity and venture capital funds to seek returns on their investments by causing their portfolio companies to pursue mergers, public equity offerings, or other liquidity events more quickly than might otherwise be optimal or desirable, potentially resulting in both a lower overall return to investors and an adverse impact on their portfolio companies. We believe that our flexibility to make investments with a long-term view and without the capital return requirements of traditional private investment vehicles provides us with the opportunity to achieve greater long-term returns on invested capital.
Flexible Transaction Structuring
We believe our management team’s broad expertise and its ability to draw upon many years of combined experience enables our Adviser to identify, assess, and structure investments successfully across all levels of a company’s capital structure and manage potential risk and return at all stages of the economic cycle. We are not subject to many of the regulatory limitations that govern traditional lending institutions such as banks. As a result, we are flexible in selecting and structuring investments, adjusting investment criteria and transaction structures, and, in some cases, the types of securities in which we invest. We believe that this approach enables our Adviser to identify attractive investment opportunities that will continue to generate current income and capital gain potential throughout the economic cycle, including during turbulent periods in the capital markets. One example of our flexibility is our ability to exchange our publicly-traded stock for the stock of an acquisition target in a tax-free reorganization under the Code. After completing an acquisition in such an exchange, we can restructure the capital of the small company to include senior and subordinated debt.
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Leverage
For the purpose of making investments and to take advantage of favorable interest rates, we intend to issue senior debt securities (including borrowings under our current line of credit) up to the maximum amount permitted by the 1940 Act. The 1940 Act currently permits us to issue senior debt securities and preferred stock, to which we refer collectively as senior securities, in amounts such that our asset coverage, as defined in the 1940 Act, is at least 200% after each issuance of senior securities. We may also incur such indebtedness to repurchase our common stock. As a result of issuing senior securities, we are exposed to the risks of leverage. Although borrowing money for investments increases the potential for gain, it also increases the risk of a loss. A decrease in the value of our investments will have a greater impact on the value of our common stock to the extent that we have borrowed money to make investments. There is a possibility that the costs of borrowing could exceed the income we receive on the investments we make with such borrowed funds. In addition, our ability to pay distributions or incur additional indebtedness would be restricted if asset coverage is less than twice our indebtedness. If the value of our assets declines, we might be unable to satisfy that test. If this happens, we may be required to liquidate a portion of our loan portfolio and repay a portion of our indebtedness at a time when a sale may be disadvantageous. Furthermore, any amounts that we use to service our indebtedness will not be available for distributions to our stockholders. Our Board of Directors is authorized to provide for the issuance of preferred stock with such preferences, powers, rights and privileges as it deems appropriate, provided that such an issuance adheres to the requirements of the 1940 Act. See “Regulation as a Business Development Company—Asset Coverage” for a discussion of our leveraging constraints.
In November 2011, we completed a public offering of an aggregate of approximately 1.5 million shares of 7.125% Series 2016 Term Preferred Stock, par value $0.001 per share, at a public offering price of $25.00 per share. The Series 2016 Term Preferred Stock has an aggregate liquidation preference of $38.5 million, which we have recorded as a liability in accordance with the U.S. generally accepted accounting principles and as such will affect our asset coverage, exposing us to additional leverage risks. For a further discussion of the terms of our Series 2016 Term Preferred Stock, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations – Liquidity and Capital Resources.”
Ongoing Relationships with and Monitoring of Portfolio Companies
Our Adviser’s investment professionals actively oversee each investment by continuously evaluating the portfolio company’s performance and working collaboratively with the portfolio company’s management to identify and incorporate best resources and practices that help us achieve our investment expectations.
Monitoring
Our Adviser’s investment professionals monitor the financial performance, trends, and changing risks of each portfolio company on an ongoing basis to determine if each company is performing within expectations and to guide the portfolio company’s management in taking the appropriate courses of action. Our Adviser employs various methods of evaluating and monitoring the performance of our investments in portfolio companies, which may include the following:
| • | Monthly analysis of financial and operating performance; |
| • | Assessment of the portfolio company’s performance against its business plan and our investment expectations; |
| • | Assessment of the investment’s risks; |
| • | Participation in the portfolio company’s board of directors or management meetings; |
| • | Assessment of portfolio company management, sponsor, governance and strategic direction; |
| • | Assessment of the portfolio company’s industry and competitive environment; and |
| • | Review and assessment of the portfolio company’s operating outlook and financial projections. |
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Relationship Management
Our Adviser’s investment professionals interact with various parties involved with a portfolio company, or investment, by actively engaging with internal and external constituents, including:
| • | Management; |
| • | Boards of directors; |
| • | Financial sponsors; |
| • | Capital partners; and |
| • | Advisers and consultants. |
Managerial Assistance and Services
As a BDC, we make available significant managerial assistance to our portfolio companies and provide other services to such portfolio companies. Neither we nor our Adviser currently receives fees in connection with the managerial assistance we make available. At times, our Adviser provides other services to certain of our portfolio companies and it receives fees for these other services with 50% of certain of these fees, and 100% of others, credited against the base management fee that we would otherwise be required to pay to our Adviser.
In April 2011, Gladstone Securities started providing other services (such as investment banking and due diligence services) to certain of our portfolio companies. The fees the portfolio companies paid to Gladstone Securities do not impact the overall fees we pay to our Adviser or the overall fees credited against the base management fee.
Valuation Process
The following is a general description of the steps we take each quarter to determine the value of our investment portfolio. We value our investments in accordance with the requirements of the 1940 Act. We value securities for which market quotations are readily available at their market value. We value all other securities and assets at fair value as determined in good faith by our Board of Directors. In determining the value of our investments, our Adviser has established an investment valuation policy (the “Policy”). The Policy has been approved by our Board of Directors and each quarter the Board of Directors reviews whether our Adviser has applied the Policy consistently and votes whether or not to accept the recommended valuation of our investment portfolio. Due to the uncertainty inherent in the valuation process, such estimates of fair value may differ significantly from the values that would have been obtained had a ready market for the securities existed. Investments for which market quotations are readily available are recorded in our financial statements at such market quotations. With respect to any investments for which market quotations are not readily available, we perform the following valuation process each quarter:
| • | Our quarterly valuation process begins with each portfolio company or investment being initially assessed by our Adviser’s investment professionals responsible for the investment, using the Policy. |
| • | Preliminary valuation conclusions are then discussed with our management, and documented, along with any independent opinions of value provided by Standard & Poor’s Securities Evaluations, Inc. (“SPSE”), for review by our Board of Directors. |
| • | Our Board of Directors reviews this documentation and discusses the information provided by our management, and the opinions of value provided by SPSE to arrive at a determination that the Policy has been followed for determining the aggregate fair value of our portfolio of investments. |
Our valuation policies, procedures and processes are more fully described under “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Critical Accounting Policies — Investment Valuation.”
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Investment Advisory and Management Agreements
We are externally managed pursuant to contractual arrangements with our Adviser under which our Adviser and Administrator employ all of our personnel and pay our payroll, benefits and general expenses directly. In 2004, we entered into an investment advisory agreement with our Adviser (as amended, the “Advisory Agreement”), which is controlled by our chairman and chief executive officer. In accordance with the Advisory Agreement, we pay the Adviser fees as compensation for its services, consisting of a base management fee and an incentive fee. On July 12, 2011, our Board of Directors approved the renewal of the Advisory Agreement through August 31, 2012.
Base Management Fee
The base management fee is computed and payable quarterly and is assessed at an annual rate of 2.0% computed on the basis of the value of our average gross assets at the end of the two most recently completed quarters, which are total assets, including investments made with proceeds of borrowings, less any uninvested cash or cash equivalents resulting from borrowings. Overall, the base management fee cannot exceed 2.0% of total assets (as reduced by cash and cash equivalents pledged to creditors) during any given fiscal year. In addition, the following three items are potential adjustments to the base management fee calculation.
| • | Loan Servicing Fees |
Our Adviser also services the loans held by our wholly-owned subsidiary, Business Loan, in return for which our Adviser generally receives a 1.5% annual fee based on the monthly aggregate outstanding balance of loans pledged under our line of credit. Since we own these loans, all loan servicing fees paid to our Adviser are treated as reductions directly against the 2.0% base management fee under the Advisory Agreement.
| • | Portfolio Company Fees |
Under the Advisory Agreement, our Adviser has also provided and continues to provide managerial assistance and other services to our portfolio companies and may receive fees for services other than managerial assistance with 50% of certain of these fees, and 100% of others, credited against the base management fee that we would otherwise be required to pay to our Adviser.
| • | Senior Syndicated Loan Fee Waiver |
Our Board of Directors accepted an unconditional and irrevocable voluntary waiver from the Adviser to reduce the annual 2.0% base management fee on senior syndicated loan participations to 0.5%, to the extent that proceeds resulting from borrowings were used to purchase such syndicated loan participations, for the years ended September 30, 2011, 2010 and 2009 and also for the three months ended December 31, 2011 and 2010.
Incentive Fee
The incentive fee consists of two parts: an income-based incentive fee and a capital gains-based incentive fee. The income-based incentive fee rewards the Adviser if our quarterly net investment income (before giving effect to any incentive fee) exceeds 1.75% of our net assets (the “hurdle rate”). We will pay the Adviser an income-based incentive fee with respect to our pre-incentive fee net investment income in each calendar quarter as follows:
| • | no incentive fee in any calendar quarter in which our pre-incentive fee net investment income does not exceed the hurdle rate (7% annualized); |
| • | 100% of our pre-incentive fee net investment income with respect to that portion of such pre-incentive fee net investment income, if any, that exceeds the hurdle rate but is less than 2.1875% in any calendar quarter (8.75% annualized); and |
| • | 20% of the amount of our pre-incentive fee net investment income, if any, that exceeds 2.1875% in any calendar quarter (8.75% annualized). |
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Quarterly Incentive Fee Based on Net Investment Income
Pre-incentive fee net investment income
(expressed as a percentage of the value of net assets)
Percentage of pre-incentive fee net investment income
allocated to income-based portion of incentive fee
The second part of the incentive fee is a capital gains-based incentive fee that is determined and payable in arrears as of the end of each fiscal year (or upon termination of the Advisory Agreement, as of the termination date), and equals 20% of our realized capital gains as of the end of the fiscal year. In determining the capital gains-based incentive fee payable to our Adviser, we calculate the cumulative aggregate realized capital gains and cumulative aggregate realized capital losses since our inception, and the aggregate unrealized capital depreciation as of the date of the calculation, as applicable, with respect to each of the investments in our portfolio. For this purpose, cumulative aggregate realized capital gains, if any, equals the sum of the differences between the net sales price of each investment, when sold, and the original cost of such investment since our inception. Cumulative aggregate realized capital losses equals the sum of the amounts by which the net sales price of each investment, when sold, is less than the original cost of such investment since our inception. Aggregate unrealized capital depreciation equals the sum of the difference, if negative, between the valuation of each investment as of the applicable calculation date and the original cost of such investment. At the end of the applicable year, the amount of capital gains that serves as the basis for our calculation of the capital gains-based incentive fee equals the cumulative aggregate realized capital gains less cumulative aggregate realized capital losses, less aggregate unrealized capital depreciation, with respect to our portfolio of investments. If this number is positive at the end of such year, then the capital gains-based incentive fee for such year equals 20% of such amount, less the aggregate amount of any capital gains-based incentive fees paid in respect of our portfolio in all prior years. We have not incurred capital gains-based incentive fees from inception through September 30, 2011, as cumulative unrealized capital depreciation has exceeded cumulative realized capital gains net of cumulative realized capital losses.
Additionally, in accordance with accounting principles generally accepted in the U.S. (“GAAP”), we have not accrued a capital gains-based incentive fee since inception. This GAAP accrual is calculated using the aggregate cumulative realized capital gains and losses and aggregate cumulative unrealized capital depreciation included in the calculation of the capital gains-based incentive fee plus the aggregate cumulative unrealized capital appreciation. If such amount is positive at the end of a period, then GAAP requires us to record a capital gains-based incentive fee equal to 20% of such amount, less the aggregate amount of actual capital gains-based incentive fees paid in all prior years. If such amount is negative, then there is no accrual for such year. GAAP requires that the capital gains-based incentive fee accrual consider the cumulative aggregate unrealized capital appreciation in the calculation, as a capital gains-based incentive fee would be payable if such unrealized capital appreciation were realized. In such instances, however, there could be no assurance that any such unrealized capital appreciation would be realized in the future.
Our Board of Directors accepted an unconditional and irrevocable voluntary waiver from the Adviser to reduce the income-based incentive fee to the extent net investment income did not cover 100% of the distributions to stockholders for the fiscal years ended September 30, 2011, 2010 and 2009. For the years ended September 30, 2011, 2010 and 2009, these credits totaled approximately $21,000, $165,000 and $3,326,000, respectively.
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Administration Agreement
In 2004, we entered into an administration agreement with our Administrator (as amended, the “Administration Agreement”), whereby we pay separately for administrative services. The Administration Agreement provides for quarterly payments equal to our allocable portion of our Administrator’s overhead expenses in performing its obligations under the Administration Agreement, including, but not limited to, rent and salaries and benefits expenses of our chief financial officer, chief accounting officer, chief compliance officer, internal counsel and their respective staffs. Our allocable portion of expenses is generally derived by multiplying our Administrator’s total allocable expenses by the percentage of our total assets at the beginning of the quarter in comparison to the total assets at the beginning of the quarter of all companies managed by the Adviser under similar agreements. On July 12, 2011, our Board of Directors approved the renewal of the Administration Agreement through August 31, 2012.
Code of Ethics
We and our Adviser have each adopted a code of ethics and business conduct applicable to our officers, directors and all employees of our Adviser and our Administrator that complies with the guidelines set forth in Item 406 of Regulation S-K of the Securities Act. As required by the 1940 Act, this code establishes procedures for personal investments, restricts certain transactions by our personnel and requires the reporting of certain transactions and holdings by our personnel. A copy of this code is available for review, free of charge, at our website at www.gladstonecapital.com. We intend to provide any required disclosure of any amendments to or waivers of the provisions of this code by posting information regarding any such amendment or waiver to our website within four days of its effectiveness.
Compliance Policies and Procedures
We and our Adviser have adopted and implemented written policies and procedures reasonably designed to prevent violation of the federal securities laws, and our Board of Directors is required to review these compliance policies and procedures annually to assess their adequacy and the effectiveness of their implementation. We have designated a chief compliance officer, John Dellafiora, Jr., who also serves as chief compliance officer for our Adviser.
Competition
A large number of entities compete with us and make the types of investments that we seek to make in small and medium-sized privately-owned businesses. Such competitors include private equity funds, leveraged buyout funds, venture capital funds, investment banks and other equity and non-equity based investment funds, and other financing sources, including traditional financial services companies such as commercial banks. Many of our competitors are substantially larger than we are and have considerably greater funding sources that are not available to us. In addition, certain of our competitors may have higher risk tolerances or different risk assessments, which could allow them to consider a wider variety of investments, establish more relationships and build their market shares. Furthermore, many of these competitors are not subject to the regulatory restrictions that the 1940 Act imposes on us as a business development company. There is no assurance that the competitive pressures we face will not have a material adverse effect on our business, financial condition and results of operations. In addition, because of this competition, we may not be able to take advantage of attractive investment opportunities from time to time and there can be no assurance that we will be able to identify and make investments that satisfy our investment objective or that we will be able to meet our investment goals. Recently we have seen an increase in our competition such that terms and rates for proposed loans have been reduced. However, we believe that our extensive loan referral network and flexible transaction structuring enable us to compete effectively for opportunities in the current market environment.
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Staffing
We do not currently have any employees and do not expect to have any employees in the foreseeable future. Currently, services necessary for our business are provided by individuals who are employees of our Adviser and our Administrator pursuant to the terms of the Advisory Agreement and the Administration Agreement, respectively. Excluding our chief financial officer, each of our executive officers is an employee or officer, or both, of our Adviser and our Administrator. No employee of our Adviser or our Administrator will dedicate all of his or her time to us. However, we expect that 25-30 full time employees of our Adviser and our Administrator will spend substantial time on our matters during the remainder of calendar year 2011 and all of calendar year 2012. To the extent we acquire more investments, we anticipate that the number of employees of our Adviser and our Administrator who devote time to our matters will increase.
As of December 31, 2011, our Adviser and our Administrator collectively had 53 full-time employees. A breakdown of these employees is summarized by functional area in the table below:
| Number of Individuals |
Functional Area | |
| 10 |
Executive Management | |
| 32 |
Investment Management, Portfolio Management and Due Diligence | |
| 11 |
Administration, Accounting, Compliance, Human Resources, Legal and Treasury |
Properties
We do not own any real estate or other physical properties materially important to our operations. Our Adviser is the current leaseholder of all properties in which we operate. We occupy these premises pursuant to our Advisory and Administration Agreements with our Adviser and Administrator, respectively. Our Adviser and Administrator are both headquartered in McLean, Virginia and our Adviser also has offices in several other states.
Legal Proceedings
We are not currently subject to any material legal proceedings, nor, to our knowledge, is any material legal proceeding threatened against us.
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The following table sets forth certain information as of December 31, 2011, regarding each portfolio company in which we had a debt or equity security as of such date. All such investments have been made in accordance with our investment policies and procedures described in this prospectus.
| (Dollars in thousands) |
||||||||||||||||
| Company |
Industry |
Investment |
% of Class Held on Fully Diluted Basis |
Cost | Fair Value |
|||||||||||
| NON-CONTROL/NON-AFFILIATE INVESTMENTS |
||||||||||||||||
| Non-syndicated Loans: |
||||||||||||||||
| Access Television Network, Inc. 2600 Michelson Drive, Ste 1650 |
Service-cable airtime (infomercials) | Senior Term Debt | $ | 903 | $ | 9 | ||||||||||
| Allison Publications, LLC |
Service-publisher of consumer oriented Magazines | Senior Term Debt | 8,325 | 7,763 | ||||||||||||
| BAS Broadcasting |
Service-radio station operator | Senior Term Debt | 7,465 | 5,226 | ||||||||||||
| Chinese Yellow Pages Company |
Service-publisher of Chinese language directories | Line of Credit Senior Term Debt | 450 | 315 | ||||||||||||
| 108 | 76 | |||||||||||||||
| CMI Acquisition, LLC |
Service-recycling | Senior Subordinated Term Debt | 14,265 | 14,354 | ||||||||||||
| FedCap Partners, LLC |
Private equity fund | Class A Membership Units Uncalled Capital Commitment | 6.7 | % | 1,200 | 1,153 | ||||||||||
| GFRC Holdings, LLC 3615 Miller Park Dr. |
Manufacturing-glass-fiber reinforced concrete | Senior Term Debt | 5,424 | 3,525 | ||||||||||||
| Senior Subordinated Term Debt | 6,598 | 4,289 | ||||||||||||||
| Global Materials Technologies, Inc. |
Manufacturing-steel wool products and metal fibers | Senior Term Debt | 2,435 | 2,435 | ||||||||||||
| Heartland Communications Group 909 North Railroad Eagle River, WI 54521 |
Service-radio station operator | Line of Credit | 57 | 22 | ||||||||||||
| Line of Credit | — | — | ||||||||||||||
| Senior Term Debt | 4,320 | 1,672 | ||||||||||||||
| Common Stock Warrants | 8.8 | % | 66 | — | ||||||||||||
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| Company |
Industry |
Investment |
% of Class Held on Fully Diluted Basis |
Cost | Fair Value |
|||||||||||
| International Junior Golf Training Acquisition Company 58 Hospital Center Common Hilton Head, SC 29926 |
Service-golf training | Line of Credit | $ | 1,500 | $ | 1,088 | ||||||||||
| Senior Term Debt | 858 | 622 | ||||||||||||||
| Senior Term Debt | 2,500 | 1,813 | ||||||||||||||
| Legend Communications of Wyoming, LLC 6805 Douglas Legum Dr, Ste 100 |
Service-operator of radio stations | Senior Term Debt | 9,474 | 4,737 | ||||||||||||
| Senior Term Debt | 220 | 110 | ||||||||||||||
| North American Aircraft Services, LLC 11502 Jones Maltsberger San Antonio, TX 78216 |
Service - repairs and maintains aircraft fuel tanks and fuel systems |
Line of Credit | 1,250 | 1,225 | ||||||||||||
| Senior Term Debt | 5,017 | 4,917 | ||||||||||||||
| Senior Subordinated Term Debt | 4,750 | 4,655 | ||||||||||||||
| Senior Subordinated Term Debt | 2,820 | 2,764 | ||||||||||||||
| Common Stock Warrants | 5.8 | % | 350 | 420 | ||||||||||||
| Northstar Broadband, LLC |
Service-cable TV franchise owner | Senior Term Debt | 57 | 53 | ||||||||||||
| Ohana Media Group |
Service - AM/FM radio broadcast | Senor Term Debt | 1,590 | 1,439 | ||||||||||||
| Precision Acquisition Group Holdings, Inc. |
Manufacturing-consumable components for the Aluminum industry |
Equipment Note | 1,000 | 887 | ||||||||||||
| Senior Term Debt | 4,125 | 3,661 | ||||||||||||||
| Senior Term Debt | 4,053 | 3,597 | ||||||||||||||
| PROFIT Systems Acquisition Co. |
Service-design and develop ERP Software |
Line of Credit | — | — | ||||||||||||
| Senior Term Debt | 3,000 | 2,865 | ||||||||||||||
| RCS Management Holding Co. |
Service-healthcare supplies |
Senior Term Debt | 1,312 | 1,221 | ||||||||||||
| Senior Term Debt | 3,060 | 2,846 | ||||||||||||||
| Reliable Biopharmaceutical Holdings, Inc. |
Manufacturing-pharmaceutical and biochemical intermediates |
Line of Credit | 1,500 | 1,472 | ||||||||||||
| Mortgage Note | 7,145 | 7,011 | ||||||||||||||
| Senior Term Debt | 11,543 | 10,922 | ||||||||||||||
| Senior Subordinated Term Debt | 6,000 | 5,678 | ||||||||||||||
| Common Stock Warrants | 6.7 | % | 209 | 587 | ||||||||||||
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| Company |
Industry |
Investment |
% of Class Held on Fully Diluted Basis |
Cost | Fair Value | |||||||||||
| Saunders & Associates |
Manufacturing-equipment provider for frequency control devices | Line of Credit | $ | — | $ | — | ||||||||||
| Senior Term Debt | 8,947 | 8,868 | ||||||||||||||
| Sunburst Media - Louisiana, LLC |
Service-radio station operator | Senior Term Debt | 6,000 | 3,300 | ||||||||||||
| Thibaut Acquisition Co. |
Service-design and distribute wall covering |
Line of Credit | 525 | 513 | ||||||||||||
| Senior Term Debt | 419 | 409 | ||||||||||||||
| Senior Term Debt | 3,000 | 2,918 | ||||||||||||||
| Westlake Hardware, Inc. |
Retail-hardware and variety | Senior Subordinated Term Debt | 12,000 | 11,685 | ||||||||||||
| Senior Subordinated Term Debt | 8,000 | 7,730 | ||||||||||||||
| Westland Technologies, Inc. |
Service-diversified conglomerate | Line of Credit | $ | — | $ | — | ||||||||||
| Senior Term Debt | 2,000 | 2,000 | ||||||||||||||
| Senior Term Debt | 4,000 | 4,000 | ||||||||||||||
| Common Stock Warrants | 4.9 | % | 350 | 302 | ||||||||||||
| Winchester Electronics |
Manufacturing-high bandwidth connectors and cables | Senior Term Debt | 1,250 | 1,239 | ||||||||||||
| Senior Term Debt | 1,669 | 1,650 | ||||||||||||||
| Senior Subordinated Term Debt | 9,775 | 9,616 | ||||||||||||||
|
|
|
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|
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| Subtotal – Non-syndicated loans |
$ | 182,884 | $ | 159,659 | ||||||||||||
|
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|
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| Syndicated Loans: |
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| Airvana Network Solutions, Inc. |
Service- telecommunications |
Senior Term Debt | 4,267 | 4,381 | ||||||||||||
| Allied Security Holdings, LLC |
Service-contract security officer providers | Senior Subordinated Term Debt | 991 | 970 | ||||||||||||
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| Company |
Industry |
Investment |
% of Class Held on Fully Diluted Basis |
Cost | Fair Value |
|||||||||
| Allied Specialty Vehicles, Inc. |
Manufacturing-specialty vehicles | Senior Term Debt | $ | 9,751 | $ | 9,726 | ||||||||
| Ameriqual Group, LLC |
Manufacturing-production and distribution of food products | Senior Term Debt | 7,332 | 7,313 | ||||||||||
| Applied Systems, Inc. |
Software for property & casualty insurance industry | Senior Subordinated Term Debt | 991 | 965 | ||||||||||
| Ascend Learning, LLC |
Service-technology-based learning solutions | Senior Subordinated Term Debt | 973 | 998 | ||||||||||
| Attachmate Corporate |
Service-develops, implements and supports software | Senior Subordinated Term Debt | 3,963 | 3,800 | ||||||||||
| Autoparts Holdings Limited |
Supplier to the light and heavy-duty vehicle after market for replacement parts | Senior Term Debt | 995 | 960 | ||||||||||
| Covad Communications Group, Inc. |
Service-telecommunications | Senior Term Debt | 1,770 | 1,755 | ||||||||||
| Ernest Health, Inc. |
Service-post-acute care services | Senior Term Debt | 1,972 | 1,930 | ||||||||||
| Global Brass and Copper, Inc. |
Manufacturing - steel wool products and metal fibers | Senior Term Debt | 2,889 | 2,994 | ||||||||||
| HGI Holding, Inc |
Service - distributor of disposable medical products | Senior Term Debt | 1,724 | 1,739 | ||||||||||
| Hubbard Radio, LLC |
Service-radio station operator | Senior Subordinated Term Debt | 495 | 495 | ||||||||||
| Keypoint Government Solutions, Inc |
Service-security consulting services | Senior Term Debt | 6,900 | 6,791 | ||||||||||
| Mood Media Corporation |
Service-media and marketing solutions | Senior Term Debt | 7,925 | 7,320 | ||||||||||
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| Company |
Industry |
Investment |
% of Class Held on Fully Diluted Basis |
Cost | Fair Value |
|||||||||||
| National Surgical Hospitals, Inc. |
Service-physician-partnered surgical facilities | Senior Term Debt | $ | 1,655 | $ | 1,597 | ||||||||||
| Sensus USA, Inc. |
Service-provider of utility Communication services | Senior Term Debt | 495 | 488 | ||||||||||||
| Springs Window Fashions, LLC |
Manufacturing-window coverings | Senior Term Debt | 4,859 | 4,850 | ||||||||||||
| SRAM, LLC |
Manufacturing-premium bicycle components | Senior Term Debt | 2,476 | 2,488 | ||||||||||||
| Targus Group International, Inc. |
Manufacturing-carrying cases and accessories for notebook computers | Senior Term Debt | 9,769 | 9,602 | ||||||||||||
| Ulterra Drilling Technologies, LP |
Manufacturing-oil field drill bits and slick- slip reduction tools | Senior Term Debt | 1,914 | 1,892 | ||||||||||||
| Vision Solutions, Inc. |
Service-provider of information availability software | Senior Term Debt | 10,918 | 10,725 | ||||||||||||
| Wall Street Systems Holdings, Inc. |
Service-software provider | Senior Term Debt | 2,972 | 2,850 | ||||||||||||
| WP Evenflo Group Holdings, Inc. |
Manufacturing-infant and juvenile Products | Senior Term Debt | 1,853 | 1,667 | ||||||||||||
| Senior Preferred Equity | 0.9 | % | 333 | 429 | ||||||||||||
| Junior Preferred Equity | 4.4 | % | 111 | 151 | ||||||||||||
| Common Stock | 0.8 | % | — | 297 | ||||||||||||
|
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|
|
|
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| 90,293 | 89,173 | |||||||||||||||
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| Subtotal - Syndicated loans |
| |||||||||||||||
| Total Non-Control/Non-Affiliate Investments (represented 85.0% of total investments at fair value) |
273,177 | 248,832 | ||||||||||||||
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| Company |
Industry |
Investment |
% of Class Held on Fully Diluted Basis |
Cost | Fair Value |
|||||||||||
| CONTROL INVESTMENTS |
||||||||||||||||
| BERTL, Inc. |
Service-web-based evaluator of imaging products | Line of Credit | $ | 1,367 | $ | — | ||||||||||
| Common Stock | 88.3 | % | 424 | — | ||||||||||||
| Defiance Integrated Technologies,Inc. |
Manufacturing-trucking parts | Senior Term Debt | 58.7 | % | 7,425 | 7,425 | ||||||||||
| Common Stock | 1 | 8,681 | ||||||||||||||
| Kansas Cable Holdings, Inc. |
Service - cable, internet, voice provider | Line of Credit | 502 | 8 | ||||||||||||
| Senior Term Debt | 1,444 | 22 | ||||||||||||||
| Senior Term Debt | 1,000 | 16 | ||||||||||||||
| Common Stock | 100.0 | % | — | — | ||||||||||||
| Lindmark Acquisition, LLC |
Service-advertising | Senior Subordinated Term Debt | 10,000 | 1,700 | ||||||||||||
| Senior Subordinated Term Debt | 2,000 | 340 | ||||||||||||||
| Senior Subordinated Term Debt | 1,909 | 324 | ||||||||||||||
| Common Stock | 100.0 | % | 317 | — | ||||||||||||
| LocalTel, LLC |
Service-yellow pages publishing | Line of credit | 1,993 | 762 | ||||||||||||
| Line of Credit | 1,170 | — | ||||||||||||||
| Senior Term Debt | 325 | — | ||||||||||||||
| Senior Term Debt | 2,687 | — | ||||||||||||||
| Senior Term Debt | 2,750 | — | ||||||||||||||
| Common Stock Warrants | 40.0 | % | — | — | ||||||||||||
| Midwest Metal Distribution, Inc. |
Distribution-aluminum sheets and stainless steel | Senior Subordinated Term Debt | 18,264 | 17,641 | ||||||||||||
| Common Stock | 70.1 | % | 138 | — | ||||||||||||
| Sunshine Media Holdings |
Service-publisher regional B2B trade magazines |
Line of credit | 1,600 | 320 | ||||||||||||
| Senior Term Debt | 16,948 | 3,390 | ||||||||||||||
| Senior Term Debt | 10,700 | 2,140 | ||||||||||||||
| Junior Preferred Equity | 86.8 | % | 3,075 | — | ||||||||||||
| Common Stock | 28.8 | % | 740 | — | ||||||||||||
| U.S. Healthcare Communications,Inc. |
Service-magazine publisher/operator | Line of credit | 269 | — | ||||||||||||
| Line of credit | 450 | — | ||||||||||||||
| Common Stock | 100.0 | % | 2,470 | — | ||||||||||||
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| Company |
Industry |
Investment |
% of Class Held on Fully Diluted Basis |
Cost | Fair Value | |||||||||||
| Viapack, Inc. |
Manufacturing-polyethylene film | Line of Credit | $ | 2,800 | 476 | |||||||||||
| Senior Real Estate Term Debt | 600 | 102 | ||||||||||||||
| Senior Term Debt | 3,925 | 667 | ||||||||||||||
| Preferred Equity | 98.3 | % | — | — | ||||||||||||
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| Total Control Investments (represented 15.0% of total investments at fair value) |
|
97,293 | 44,014 | |||||||||||||
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| Total Investments |
|
$ | 370,470 | $ | 292,846 | |||||||||||
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Significant Portfolio Companies
Set forth below is a brief description of each portfolio company in which we have made an investment that currently represents greater than 5% of our total assets at fair value (excluding cash pledged to creditors). Because of the relative size of our investments in these companies, we are exposed to a greater degree to the risks associated with these companies.
CMI Acquisition, LLC
We currently hold a senior subordinated term loan, having a fair value of $14.4 million as of December 31, 2011, of CMI Acquisition, LLC, which we refer to as CMI. The principal amount of the loan is $14.3 million, and the loan matures on December 31, 2016.
CMI is a full services scrap metals recycler and automobile shredder. CMI services mainly customers in Nebraska and surrounding states, within a close radius of its plants. Because of the relative size of this investment, we are significantly exposed to the risks associated with CMI’s business. CMI is exposed to risks related to the volatility of scrap steel prices specifically and the cyclicality of the steel and automobile industries in general. CMI is also exposed to environmental risks similar to companies in this type of industry.
CMI’s principal executive offices are located at 3440 15th Street East, Columbus, NE 68601.
Defiance Integrated Technologies, Inc.
We currently hold investments, having an aggregate fair value of $16.1 million as of December 31, 2011, in Defiance Integrated Technologies, Inc. and its subsidiaries, which we refer to collectively as Defiance. Our investments in Defiance consist of a senior term loan with a principal amount outstanding of $7.3 million, maturing April 15, 2013, and 15,500 shares of its common stock, which we purchased for $775.
Defiance is a leading manufacturer of axle nut and washer systems for heavy (Class 8) trucks and trailers in North America. Through an acquisition, Defiance expanded into the light truck and auto market segments. Their product offering includes a wheel bearing retainer nut, used primarily on light trucks, and brake cable tension limiters.
Because of the relative size of this investment, we are significantly exposed to the risks associated with Defiance’s business. Defiance has been affected by the overall U.S. recession, specifically light and heavy duty truck production volume. There is risk in these markets as they are directly impacted by the consumer and industrial goods demand. Defiance, similar to other entities in these markets, is also exposed to the risk of
increased raw material prices and manufacturing costs. In addition, Defiance’s financial results are correlated
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with the operations and production levels of the large domestic auto makers. In order to overcome these risks, Defiance will need to continue to diversify its revenue sources and maintain control over its costs.
One of our Adviser’s managing directors, Lud Kimbrough, and one of our Adviser’s directors, Michael Beckett, are directors on Defiance’s board. The principal executive offices of Defiance are located at 1090 Perry Street, Defiance, Ohio 43512.
Midwest Metal Distribution, Inc.
We currently hold investments, having an aggregate fair value of $17.6 million as of December 31, 2011, in Midwest Metal Distribution, Inc., which we refer to as Midwest Metal. Our investments in Midwest Metal consist of a senior subordinated term loan with a principal amount outstanding of $18.3 million, maturing July 31, 2013 and 501 shares of common stock, which we purchased for $0.1 million.
Midwest Metal is a metal service center that supplies custom cut aluminum sheet, plate, bar/extrusions, angle as well as stainless steel. Midwest Metal has focused on serving customers in the Midwest and Great Lakes region that require small batches of custom cut metal, and Just-in-time (JIT) delivery service at competitive prices.
Because of the relative size of this investment, we are significantly exposed to the risks associated with Midwest Metal’s business. Midwest Metal is exposed to commodity price risk in aluminum and stainless steel, which historically have been substantially more volatile during the past three years than in previous historical periods. Additionally, despite a diversified customer base, a significant percentage of sales are to customers in the auto industry, which has historically been volatile and has undergone significant changes during the recent recession. To overcome these risks, Midwest Metal management will need to execute on offering competitively priced metal enhanced by high value-added processing with a quick turnaround.
Our vice chairman and chief operating officer, Terry Lee Brubaker, one of our Adviser’s managing directors, Lud Kimbrough, and one of our Adviser’s associates, Christopher Lee, are directors of Midwest Metal. The principal executive offices of Midwest Metal are located at 6270 Van Buren Road, Clinton, Ohio 44216.
Reliable Biopharmaceutical Holdings, Inc.
We currently hold investments, having an aggregate fair value of $25.7 million as of December 31, 2011, in Reliable Biopharmaceutical Holdings, Inc. and its subsidiaries, which we refer to collectively as Reliable. Our investments in Reliable consist of a senior term last out tranche loan with a principal amount outstanding of $11.5 million, a senior subordinated term loan with a principal amount outstanding of $6.0 million, a mortgage note with a principal amount outstanding of $7.1 million, a revolving credit facility of $4.0 million, of which $1.0 million is currently undrawn, and a warrant to purchase 764 shares of common stock, which we purchased for $0.2 million. Each of the notes has a maturity date of December 22, 2014 and the revolving credit facility has a maturity date of January 30, 2013. Reliable, based in St. Louis, Missouri, develops and manufactures active pharmaceutical ingredients and high purity processing chemicals used in the manufacture of pharmaceuticals and biological products. Reliable’s products are the active ingredients for leading generic injectable drugs that treat cancer, heart disease, hypertension, anxiety and other serious illnesses.
Because of the relative size of this investment, we are significantly exposed to the risks associated with Reliable’s business. In particular, Reliable is subject to regulation and approvals by the Food & Drug Administration, or FDA. Should Reliable fail to comply with FDA regulations, it could have a material adverse impact on Reliable and the value of our investment in Reliable.
Reliable’s principal executive offices are located at 1945 Walton Road, St. Louis, Missouri 63114.
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Westlake Hardware, Inc.
We currently hold investments, having an aggregate fair value of $19.4 million as of December 31, 2011, in Westlake Hardware, Inc., which we refer to as Westlake. Our investments in Westlake consist of a senior subordinated term loan with a principal amount outstanding of $12.0 million and a senior subordinated term last out tranche loan with a principal amount outstanding of $8.0 million, both maturing on January 6, 2014.
Westlake is a business with a 100-year history as a retailer of home hardware. Westlake is the largest member of the ACE Hardware Corporation buying cooperative. Westlake operates more than 85 retail locations, averaging 20,000 square feet each, in seven Midwestern states that sell a variety of products and services to predominantly “do-it-yourself,” or DIY, customers and some professionals. Westlake has a strong brand name in the Midwest, gained by providing customers quality products, a broad selection and superior service in a neighborhood retail setting.
Because of the relative size of this investment, we are significantly exposed to the risks associated with Westlake’s business. Big-box retailers dominate the home improvement market and have impacted Westlake’s revenue growth historically. There is a risk that they may change strategy and compete with stores like Westlake with smaller stores similar to Westlake. In fact, Big-box retailers have been doing this during the economic downturn, but Westlake has had some success repositioning itself as offering more knowledgeable staff (older and more experienced with more training) who can offer guidance on a range of home repairs and projects. Westlake plans on growing through infill store growth and positioning itself as the “neighborhood” store. Slowdown in the economy could reduce personal incomes, leading to lower retail hardware purchases if customers defer repairs.
The principal executive offices of Westlake are located at 14000 Marshall Drive, Lenexa, Kansas 66215.
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Our business and affairs are managed under the direction of our Board of Directors. Our Board of Directors currently consists of nine members, five of whom are not considered to be “interested persons” of Gladstone Capital as defined in Section 2(a)(19) of the 1940 Act. We refer to these individuals as our independent directors. Our Board of Directors elects our officers, who serve at the discretion of the Board of Directors.
Board of Directors
Under our articles of incorporation, our directors are divided into three classes. Each class consists, as nearly as possible, of one-third of the total number of directors, and each class has a three year term. Holders of our common stock and preferred stock vote together as a class for the election of directors, except that the holders of our term preferred stock have the right to elect two of our directors. At each annual meeting of our stockholders, the successors to the class of directors whose term expires at such meeting will be elected to hold office for a term expiring at the annual meeting of stockholders held in the third year following the year of their election. Each director will hold office for the term to which he or she is elected and until his or her successor is duly elected and qualifies. Information regarding our Board of Directors is as follows (the address for each director is c/o Gladstone Capital Corporation, 1521 Westbranch Drive, Suite 200, McLean, Virginia 22102):
| Name |
Age | Position |
Director Since |
Expiration of Term |
||||||||||
| Interested Directors |
||||||||||||||
| David Gladstone |
69 | Chairman of the Board and Chief | 2001 | 2013 | ||||||||||
| Executive Officer(1)(2) | ||||||||||||||
| Terry L. Brubaker |
68 | Vice Chairman, Chief Operating Officer, | 2001 | 2015 | ||||||||||
| Secretary and Director(1)(2) | ||||||||||||||
| George Stelljes III |
50 | President, Chief Investment Officer and | 2003 | 2014 | ||||||||||
| Director(1) | ||||||||||||||
| David A. R. Dullum |
63 | Director(1) | 2001 | 2015 | ||||||||||
| Independent Directors |
||||||||||||||
| Anthony W. Parker |
66 | Director(2)(3)(6) | 2001 | 2014 | ||||||||||
| Michela A. English |
62 | Director(3)(6) | 2002 | 2014 | ||||||||||
| Paul W. Adelgren |
69 | Director(4)(5)(6) | 2003 | 2013 | ||||||||||
| John H. Outland |
66 | Director(4)(5)(6) | 2003 | 2013 | ||||||||||
| John Reilly |
69 | Director(3)(6) | 2011 | 2015 | ||||||||||
| (1) | Interested person as defined in Section 2(a)(19) of the 1940 Act due to the director’s position as our officer and/or employment by our Adviser. |
| (2) | Member of the executive committee. |
| (3) | Member of the audit committee. |
| (4) | Member of the ethics, nominating, and corporate governance committee. |
| (5) | Member of the compensation committee. |
| (6) | Each independent director serves as an alternate member of each committee for which they do not serve as a regular member. Messrs. Adelgren and Outland serve as alternate members of the audit committee; Messrs. Parker and Reilly and Ms. English serve as alternates on the compensation committee; and Messrs. Parker and Reilly and Ms. English serve as alternates on the ethics, nominating and corporate governance committee. Alternate members of the committees serve and participate in meetings of the committees only in the event of an absence of a regular member of the committee. |
The biographical information for each of our directors, includes all of the public company directorships held by such directors for the past five years.
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Independent Directors (in alphabetical order)
Paul W. Adelgren. Mr. Adelgren has served as a director since January 2003. Mr. Adelgren has also served as a director of Gladstone Commercial since August 2003 and a director of Gladstone Investment since June 2005. From 1997 to the present, Mr. Adelgren has served as the pastor of Missionary Alliance Church. From 1991 to 1997, Mr. Adelgren was pastor of New Life Alliance Church. From 1988 to 1991, Mr. Adelgren was vice president — finance and materials for Williams & Watts, Inc., a logistics management and procurement business located in Fairfield, NJ. Prior to joining Williams & Watts, Mr. Adelgren served in the United States Navy, where he served in a number of capacities, including as the director of the Strategic Submarine Support Department, as an executive officer at the Naval Supply Center, and as the director of the Joint Uniform Military Pay System. He is a retired Navy Captain. Mr. Adelgren holds an MBA from Harvard Business School and a BA from the University of Kansas. Mr. Adelgren was selected to serve as an independent director on our Board due to his strength and experience in ethics, which also led to his appointment to the chairmanship of our Ethics, Nominating & Corporate Governance Committee, as well as his past service on our Board since 2003.
Michela A. English. Ms. English has served as director since June 2002. Ms. English is President and CEO of Fight for Children, a non-profit charitable organization focused on providing high quality education and health care services to underserved youth in Washington, D.C. Ms. English has also been a director of Gladstone Commercial since August 2003, and a director of Gladstone Investment since June 2005. From March 1996 to March 2004, Ms. English held several positions with Discovery Communications, Inc., including president of Discovery Consumer Products, president of Discovery Enterprises Worldwide and president of Discovery.com. From 1991 to 1996, Ms. English served as senior vice president of the National Geographic Society and was a member of the National Geographic Society’s Board of Trustees and Education Foundation Board. Prior to 1991, Ms. English served as vice president, corporate planning and business development for Marriott Corporation and as a senior engagement manager for McKinsey & Company. Ms. English currently serves as director of the Educational Testing Service (ETS), as a director of D.C. Preparatory Academy, a director of the District of Columbia Public Education Fund, a director of the National Women’s Health Resource Center, a trustee of the Corcoran Museum of Art, a director of the Society for Science and the Public and as a member of the Virginia Institute of Marine Science Council. Ms. English is an emeritus member of the board of Sweet Briar College. Ms. English holds a Bachelor of Arts in International Affairs from Sweet Briar College and a Master of Public and Private Management degree from Yale University’s School of Management. Ms. English was selected to serve as an independent director on our Board due to her greater than twenty years of senior management experience at various corporations and non-profit organizations as well as her past service on our Board since 2002.
John H. Outland. Mr. Outland has served as a director since December 2003. Mr. Outland has also served as a director of Gladstone Commercial since December 2003 and of Gladstone Investment since June 2005. From March 2004 to June 2006, he served as vice president of Genworth Financial, Inc. From 2002 to March 2004, Mr. Outland served as a managing director for 1789 Capital Advisors, where he provided market and transaction structure analysis and advice on a consulting basis for multifamily commercial mortgage purchase programs. From 1999 to 2001, Mr. Outland served as vice president of mortgage-backed securities at Financial Guaranty Insurance Company where he was team leader for bond insurance transactions, responsible for sourcing business, coordinating credit, loan files, due diligence and legal review processes, and negotiating structure and business issues. From 1993 to 1999, Mr. Outland was senior vice president for Citicorp Mortgage Securities, Inc., where he securitized non-conforming mortgage product. From 1989 to 1993, Mr. Outland was vice president of real estate and mortgage finance for Nomura Securities International, Inc., where he performed due diligence on and negotiated the financing of commercial mortgage packages in preparation for securitization. Mr. Outland holds an MBA from Harvard Business School and a bachelor’s degree in Chemical Engineering from Georgia Institute of Technology. Mr. Outland was selected to serve as an independent director on our Board due to his more than twenty years of experience in the real estate and mortgage industry as well as his past service on our Board since 2003.
Anthony W. Parker. Mr. Parker has served as a director since August 2001. Mr. Parker has also served as a director of Gladstone Commercial since August 2003 and as a director of Gladstone Investment since June 2005.
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In January 2011, Mr. Parker was elected as treasurer of the Republican National Committee. In 1997 Mr. Parker founded Parker Tide Corp., formerly known as Snell Professional Corp. Parker Tide Corp. is a government contracting company providing mission critical solutions to the Federal government. From 1992 to 1996, Mr. Parker was chairman of, and a 50 percent stockholder of, Capitol Resource Funding, Inc., or CRF, a commercial finance company. Mr. Parker practiced corporate and tax law for over 15 years: from 1980 to 1983, he practiced at Verner, Liipfert, Bernhard & McPherson and from 1983 to 1992, in private practice. From 1973 to 1977, Mr. Parker served as executive assistant to the administrator of the U.S. Small Business Administration. Mr. Parker received his J.D. and Masters in Tax Law from Georgetown Law Center and his undergraduate degree from Harvard College. Mr. Parker was selected to serve as an independent director on our Board due to his expertise and wealth of experience in the field of corporate taxation as well as his past service on our Board since our inception. Mr. Parker’s knowledge of corporate tax was instrumental in his appointment to the chairmanship of our Audit Committee.
John Reilly. Mr. Reilly has served as a director since January 2011. Mr. Reilly has also served as a director of Gladstone Investment and Gladstone Commercial since January 2011. From 1987 until the present, Mr. Reilly has served as president of Reilly Investment Corporation, where he provides advisory services to public and private companies, and financing and joint venture development. From March 1976 until April 1984 he served as principal stockholder, president and chief executive officer of Reilly Mortgage Group, Inc., where he provided origination and construction lending and permanent loan placement of commercial real estate loans for institutional investors. In 1988, Mr. Reilly assumed the role of chairman. In 1992, Stonehurst Ventures, L.P., purchased Reilly Mortgage Group, at which time he then assumed the role of executive director until 1994. From 1971 to 1976, Mr. Reilly served as vice president of Walker & Dunlop, Inc. where he provided services for commercial loan originations, joint ventures, HUD programs and secondary marketing. From 1967 to 1969, Mr. Reilly served as a research engineer for Crane Company, and from 1964 to 1967 he served as a supply officer in the United States Navy. Mr. Reilly also has served as a member of the board of directors of Beekman Helix India since 2009, and has served as co-chairman of the board of directors for Community Preservation and Development Corporation since 2006. He has also served as a member of the board of Victory Housing since 2005 and has served as the chairman of the advisory board of the Snite Museum of Art at the University of Notre Dame since 1996. Mr. Reilly has held a D.C. real estate broker license since 1973. Mr. Reilly is a graduate of Mortgage Bankers School I, II and II and Income School I and II. Mr. Reilly holds an MBA from Harvard Business School and a Bachelor of Arts and a Bachelor of Science in Mathematical Engineering from the University of Notre Dame. Mr. Reilly was selected to serve as an independent director on our Board due to his expertise and wealth of experience in the real estate and mortgage industry.
Interested Directors
David Gladstone. Mr. Gladstone is our founder and has served as our chief executive officer and chairman of our Board of Directors since our inception. Mr. Gladstone is also the founder of our Adviser and has served as its chief executive officer and chairman of its board of directors since its inception. Mr. Gladstone also founded and serves as the chief executive officer and chairman of the boards of directors of our affiliates, Gladstone Investment and Gladstone Commercial. Prior to founding the Gladstone Companies, Mr. Gladstone served as either chairman or vice chairman of the board of directors of American Capital Strategies, Ltd., a publicly traded leveraged buyout fund and mezzanine debt finance company, from June 1997 to August 2001. From 1974 to February 1997, Mr. Gladstone held various positions, including chairman and chief executive officer, with Allied Capital Corporation (a mezzanine debt lender), Allied Capital Corporation II (a subordinated debt lender), Allied Capital Lending Corporation (a small business lending company), Allied Capital Commercial Corporation (a real estate investment company), and Allied Capital Advisers, Inc., a registered investment adviser that managed the Allied companies. The Allied companies were the largest group of publicly-traded mezzanine debt funds in the United States and were managers of two private venture capital limited partnerships (Allied Venture Partnership and Allied Technology Partnership) and a private REIT (Business Mortgage Investors). From 1992 to 1997, Mr. Gladstone served as a director, president and chief executive officer of Business Mortgage Investors, a privately held mortgage REIT managed by Allied Capital Advisors, which invested in loans to small and
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medium-sized businesses. Mr. Gladstone is also a past director of Capital Automotive REIT, a real estate investment trust that purchases and net leases real estate to automobile dealerships. Mr. Gladstone served as a director of The Riggs National Corporation (the parent of Riggs Bank) from 1993 to May 1997 and of Riggs Bank from 1991 to 1993. He has served as a trustee of The George Washington University and currently is a trustee emeritus. He is a past member of the Listings and Hearings Committee of the National Association of Securities Dealers, Inc. He is a past member of the advisory committee to the Women’s Growth Capital Fund, a venture capital firm that finances women-owned small businesses. Mr. Gladstone was the founder and managing member of The Capital Investors, LLC, a group of angel investors, and is currently a member emeritus. He is also the past chairman and past owner of Coastal Berry Company, LLC, a large strawberry farming operation in California. He is also the chairman and owner of Gladstone Land Corporation, a privately held company that has substantial farmland holdings in agriculture real estate in California. Mr. Gladstone holds an MBA from the Harvard Business School, an MA from American University and a BA from the University of Virginia. Mr. Gladstone has co-authored two books on financing for small and medium-sized businesses, Venture Capital Handbook and Venture Capital Investing. Mr. Gladstone was selected to serve as a director on our Board due to the fact that he is our founder and has greater than thirty years of experience in the industry, including his service as our chairman and chief executive since our inception.
Terry Lee Brubaker. Mr. Brubaker has been our chief operating officer, secretary and a director since our inception. He also served as our president from May 2001 through April 2004, when he assumed the duties of vice chairman. Mr. Brubaker has also served as a director of our Adviser since its inception. He also served as president of our Adviser from its inception through February 2006, when he assumed the duties of vice chairman, chief operating officer and secretary. He has served as vice chairman, chief operating officer, secretary and as a director of Gladstone Investment since its inception. Mr. Brubaker has also served chief operating officer, secretary and as a director of Gladstone Commercial since February 2003, and as president from February 2003 through July 2007, when he assumed the duties of vice chairman. In March 1999, Mr. Brubaker founded and, until May 1, 2003, served as chairman of Heads Up Systems, a company providing process industries with leading edge technology. From 1996 to 1999, Mr. Brubaker served as vice president of the paper group for the American Forest & Paper Association. From 1992 to 1995, Mr. Brubaker served as president of Interstate Resources, a pulp and paper company. From 1991 to 1992, Mr. Brubaker served as president of IRI, a radiation measurement equipment manufacturer. From 1981 to 1991, Mr. Brubaker held several management positions at James River Corporation, a forest and paper company, including vice president of strategic planning from 1981 to 1982, group vice president of the Groveton Group and Premium Printing Papers from 1982 to 1990, and vice president of human resources development in 1991. From 1976 to 1981, Mr. Brubaker was strategic planning manager and marketing manager of white papers at Boise Cascade. Previously, Mr. Brubaker was a senior engagement manager at McKinsey & Company from 1972 to 1976. Prior to 1972, Mr. Brubaker was a U.S. Navy fighter pilot. Mr. Brubaker holds an MBA from the Harvard Business School and a BSE from Princeton University. Mr. Brubaker was selected to serve as a director on our Board due to his more than thirty years of experience in various mid-level and senior management positions at several corporations as well as his past service on our Board since our inception.
George Stelljes III. Mr. Stelljes has served as our chief investment officer since September 2002 and a director from August 2001 to September 2002, and then rejoined the Board of Directors in July 2003. He also served as our executive vice president from September 2002 through April 2004, when he assumed the duties of president. Mr. Stelljes has served as our Adviser’s chief investment officer and a director of our Adviser since May 2003. He also served as executive vice president of our Adviser until February 2006, when he assumed the duties of president. Mr. Stelljes has served as Gladstone Investment’s chief investment officer and a director since inception. Mr. Stelljes also served as Gladstone Investment’s president from inception through April 2008, when he became a vice chairman. Mr. Stelljes has served as chief investment officer of Gladstone Commercial since February 2003, and as a director since July 2007. He also served as executive vice president of Gladstone Commercial from February 2003 through July 2007, when he assumed the duties of president. Prior to joining Gladstone Mr. Stelljes served as a managing member of St. John’s Capital, a vehicle used to make private equity
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investments. From 1999 to 2001, Mr. Stelljes was a co-founder and managing member of Camden Partners and Cahill Warnock & Company, private equity firms which finance high growth companies in the communications, education, healthcare, and business services sectors. From 1997 to 1999, Mr. Stelljes was a managing director and partner of Columbia Capital, a venture capital firm focused on investments in communications and information technology. From 1989 to 1997, Mr. Stelljes held various positions, including executive vice president and principal, with the Allied companies. Mr. Stelljes serves as a general partner and investment committee member of Patriot Capital and Patriot Capital II, private equity funds, and serves on the board of Intrepid Capital Management, a money management firm. He is also a former board member and regional president of the National Association of Small Business Investment Companies. Mr. Stelljes holds an MBA from the University of Virginia and a BA in Economics from Vanderbilt University. Mr. Stelljes was selected to serve as a director on our Board due to his more than twenty years of experience in the investment analysis, management, and advisory industries as well as his past service on our Board since 2003.
David A. R. Dullum. Mr. Dullum has served as a director since August 2001. Mr. Dullum has been a senior managing director of our Adviser since February 2008, a director of Gladstone Commercial since August 2003, and a director of Gladstone Investment since June 2005 and has served as Gladstone Investment’s president since April 2008. From 1995 through June 2009, Mr. Dullum was a partner of New England Partners, a venture capital firm focused on investments in small and medium-sized business in the Mid-Atlantic and New England regions. From May 2005 to May 2008, Mr. Dullum served as the President and a director of Harbor Acquisition Corporation, an operating business with emphasis in the consumer and industrial sectors. From 1976 to 1990, Mr. Dullum was a managing general partner of Frontenac Company, a Chicago-based venture capital firm. Mr. Dullum holds an MBA from Stanford Graduate School of Business and a BME from the Georgia Institute of Technology. Mr. Dullum was selected to serve as a director on our Board due to his more than thirty years of experience in various areas of the investment industry as well as his past service on our Board since our inception.
Executive Officers Who Are Not Directors
Information regarding our executive officers who are not directors is as follows (the address for each executive officer is c/o Gladstone Capital Corporation, 1521 Westbranch Drive, Suite 200, McLean, Virginia 22102):
| Name |
Age | Position | ||||
| David Watson |
36 | Chief Financial Officer and Treasurer | ||||
| Melissa Morrison |
38 | Chief Accounting Officer | ||||
David Watson. Mr. Watson has served as our chief financial officer since January 2011 and has served as the chief financial officer of Gladstone Investment since January 2010. He also assumed treasurer responsibilities in January 2012 for both Gladstone Capital and Gladstone Investment. Prior to joining our company, from July 2007 until January 2010, Mr. Watson was Director of Portfolio Accounting of MCG Capital Corporation. Mr. Watson was employed by Capital Advisory Services, LLC, which subsequently joined Navigant Consulting, Inc., where he held various positions providing finance and accounting consulting services from 2001 to 2007. Prior to that, Mr. Watson was an auditor at Deloitte and Touche. He received a BS from Washington and Lee University, an MBA from the University of Maryland’s Smith School of Business, and is a licensed CPA in the Commonwealth of Virginia.
Melissa Morrison. Ms. Morrison has served as our Chief Accounting Officer since November 2011. From September 2007 to September 2011, Ms. Morrison served in various positions providing accounting and finance services including accounting and sales finance controller roles to Tandberg, Inc., which was subsequently acquired by Cisco Systems, Inc. in April 2010. Prior to September 2007, Ms. Morrison worked at PRA International, Inc. and Ericsson NetQual Inc. in accounting manager and assistant controller positions, respectively. Her career began as an auditor at PricewaterhouseCoopers, LLC. She received a BBA from The College of William and Mary and is a licensed CPA in the Commonwealth of Virginia.
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Employment Agreements
We are not a party to any employment agreements. Messrs. Gladstone, Brubaker and Stelljes have entered into employment agreements with our Adviser, whereby they are direct employees of our Adviser. The employment agreement of Mr. Stelljes provides for his nomination to serve as our chief investment officer.
Director Independence
As required under NASDAQ listing standards, our Board of Directors annually determines each director’s independence, and continually assesses the independence of each of the directors throughout the year. The NASDAQ listing standards provide that a director of a business development company is considered to be independent if he or she is not an “interested person” of ours, as defined in Section 2(a)(19) of the 1940 Act. Section 2(a)(19) of the 1940 Act defines an “interested person” to include, among other things, any person who has, or within the last two years had, a material business or professional relationship with us.
Consistent with these considerations, after review of all relevant transactions or relationships between each director, or any of his or her family members, and us, our senior management and our independent auditors, the Board has affirmatively determined that the following five directors are independent directors within the meaning of the applicable NASDAQ listing standards: Messrs. Adelgren, Outland, Parker and Reilly and Ms. English. In making this determination, the Board found that none of the these directors or nominees for director had a material or other disqualifying relationship with us. Mr. Gladstone, the chairman of our Board of Directors and chief executive officer, Mr. Brubaker, our vice chairman, chief operating officer and secretary, Mr. Stelljes, our president and chief investment officer, and Mr. Dullum, a senior managing director of our Adviser, are not independent directors by virtue of their positions as our officers or as officers of our Adviser or their employment by our Adviser.
Corporate Leadership Structure
Since our inception, Mr. Gladstone has served as chairman of our Board and our chief executive officer. Our Board believes that our chief executive officer is best situated to serve as chairman because he is the director most familiar with our business and industry, and most capable of effectively identifying strategic priorities and leading the discussion and execution of strategy. In addition, Mr. Adelgren, one of our independent directors, serves as the lead director for all meetings of our independent directors held in executive session. The lead director has the responsibility of presiding at all executive sessions of our Board, consulting with the chairman and chief executive officer on Board and committee meeting agendas, acting as a liaison between management and the independent directors and facilitating teamwork and communication between the independent directors and management.
Our Board believes the combined role of chairman and chief executive officer, together with an independent Lead Director, is in the best interest of stockholders because it provides the appropriate balance between strategic development and independent oversight of risk management. In coming to this conclusion, the Board considered the importance of having an interested chairperson that is familiar with our day-to-day management activities, our portfolio companies and the operations of our Adviser. The Board concluded that the combined role enhances, among other things, the Board’s understanding of our investment portfolio, business, finances and risk management efforts. In addition, the Board believes that Mr. Gladstone’s employment by the Adviser better allows for the efficient mobilization of the Adviser’s resources at the Board’s behest and on its behalf.
Committees of Our Board of Directors
Executive Committee. Membership of our executive committee is comprised of Messrs. Gladstone, Brubaker and Parker. The executive committee has the authority to exercise all powers of our Board of Directors except for actions that must be taken by a majority of independent directors or the full Board of Directors under the Maryland General Corporation Law, including electing our chairman and president. Mr. Gladstone serves as chairman of the executive committee. The executive committee did not meet during the last fiscal year.
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Audit Committee. The Audit Committee of our Board oversees our corporate accounting and financial reporting process. For this purpose, the Audit Committee performs several functions. The Audit Committee evaluates the performance of and assesses the qualifications of the independent registered public accounting firm; determines and approves the engagement of the independent registered public accounting firm; determines whether to retain or terminate the existing independent registered public accounting firm or to appoint and engage a new independent registered public accounting firm; reviews and approves the retention of the independent registered public accounting firm to perform any proposed permissible non-audit services; monitors the rotation of partners of the independent registered public accounting firm on our audit engagement team as required by law; confers with management and the independent registered public accounting firm regarding the effectiveness of internal controls over financial reporting; establishes procedures, as required under applicable law, for the receipt, retention and treatment of complaints received by us regarding accounting, internal accounting controls or auditing matters and the confidential and anonymous submission by employees of concerns regarding questionable accounting or auditing matters; and meets to review our annual audited financial statements and quarterly financial statements with management and the independent registered public accounting firm, including reviewing our disclosures under “Management’s Discussion and Analysis of Financial Condition and Results of Operations.” During the fiscal year ended September 30, 2011, the Audit Committee was comprised of Messrs. Parker, Gerard Mead (a former director) and Ms. English and, following his appointment to the Board in January 2011, Mr. Reilly. Mr. Mead’s service on the Audit Committee ceased upon the conclusion of his term as a director at our 2012 annual meeting of stockholders, and the Audit Committee is currently comprised of Messrs. Parker (Chairman) and Reilly and Ms. English. Messrs. Adelgren and Outland serve as alternate members of the Audit Committee. Alternate members of the Audit Committee serve and participate in meetings of the Audit Committee only in the event of an absence of a regular member of the Audit Committee. The Audit Committee met eight times during the last fiscal year. The Audit Committee has adopted a written charter that is available to stockholders on our website at www.gladstonecapital.com.
Compensation Committee. The Compensation Committee operates pursuant to a written charter that is available to stockholders on our website at www.gladstonecapital.com. The Compensation Committee conducts periodic reviews of the Advisory Agreement and the Administration Agreement to evaluate whether the fees paid to our Adviser and our Administrator under the agreements are in the best interests of us and our stockholders. The committee considers in such periodic reviews, among other things, whether the salaries and bonuses paid to our executive officers by our Adviser and our Administrator are consistent with our compensation philosophies, whether the performance of our Adviser and our Administrator are reasonable in relation to the nature and quality of services performed and whether the provisions of the Advisory and Administration Agreements are being satisfactorily performed. The Compensation Committee also reviews with management our Compensation Discussion and Analysis and to consider whether to recommend that it be included in proxy statements and other filings. During the fiscal year ended September 30, 2011, the Compensation Committee was comprised of Messrs. Adelgren, Outland and Mead and Ms. English. Mr. Mead’s service on the Compensation Committee ceased upon the conclusion of his term as a director at our 2012 annual meeting of stockholders, and the Compensation Committee is currently comprised of Messrs. Outland (Chairman) and Adelgren, with Messrs. Parker and Reilly, and Ms. English serving as alternate members. Alternate members of the Compensation Committee serve and participate in meetings of the Compensation Committee only in the event of an absence of a regular member of the Compensation Committee. The Compensation Committee met four times during the last fiscal year. The Compensation Committee has adopted a written charter that is available to stockholders on our website at www.gladstonecapital.com.
Ethics, Nominating and Corporate Governance Committee. The Ethics, Nominating and Corporate Governance Committee of our Board is responsible for identifying, reviewing and evaluating candidates to serve as our directors (consistent with criteria approved by our Board), reviewing and evaluating incumbent directors, recommending to our Board for selection candidates for election to our Board, making recommendations to our Board regarding the membership of the committees of our Board, assessing the performance of our Board, and developing our corporate governance principles. Our Ethics, Nominating and Corporate Governance Committee charter can be found on our website at www.gladstonecapital.com. The Ethics Committee is currently comprised
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of Messrs. Adelgren (Chairman) and Outland, with Messrs. Parker, and Reilly, and Ms. English serving as alternate members. Each member of the Ethics, Nominating and Corporate Governance Committee is independent (as independence is currently defined in Rule 5605(a)(2) of the NASDAQ listing standards). The Ethics, Nominating and Corporate Governance Committee met four times during the last fiscal year. The Ethics, Nominating and Corporate Governance Committee has adopted a written charter that is available to stockholders on our website at www.gladstonecapital.com.
Qualifications for Director Candidates. The Ethics, Nominating and Corporate Governance Committee believes that candidates for director should have certain minimum qualifications, including being able to read and understand basic financial statements, being over 21 years of age and having the highest personal integrity and ethics. The Ethics, Nominating and Corporate Governance Committee also considers such factors as possessing relevant expertise upon which to be able to offer advice and guidance to management, having sufficient time to devote to our affairs, demonstrated excellence in his or her field, having the ability to exercise sound business judgment and having the commitment to rigorously represent the long-term interests of our stockholders. However, the Ethics, Nominating and Corporate Governance Committee retains the right to modify these qualifications from time to time. Candidates for director nominees are reviewed in the context of the current composition of our Board, our operating requirements and the long-term interests of our stockholders.
Though we have no formal policy addressing diversity, the Ethics, Nominating and Corporate Governance Committee and Board believe that diversity is an important attribute of directors and that our Board should be the culmination of an array of backgrounds and experiences and be capable of articulating a variety of viewpoints. Accordingly, the Ethics, Nominating and Corporate Governance Committee considers in its review of director nominees factors such as values, disciplines, ethics, age, gender, race, culture, expertise, background and skills, all in the context of an assessment of the perceived needs of us and our Board at that point in time in order to maintain a balance of knowledge, experience and capability.
In the case of incumbent directors whose terms of office are set to expire, the Ethics, Nominating and Corporate Governance Committee reviews such directors’ overall service to us during their term, including the number of meetings attended, level of participation, quality of performance, and any other relationships and transactions that might impair such directors’ independence. In the case of new director candidates, the Ethics, Nominating and Corporate Governance Committee also determines whether such new nominee must be independent for NASDAQ purposes, which determination is based upon applicable NASDAQ listing standards, applicable SEC rules and regulations and the advice of counsel, if necessary. The Ethics, Nominating and Corporate Governance Committee then uses its network of contacts to compile a list of potential candidates, but may also engage, if it deems appropriate, a professional search firm. The Ethics, Nominating and Corporate Governance Committee conducts any appropriate and necessary inquiries into the backgrounds and qualifications of possible candidates after considering the function and needs of our Board. The Ethics, Nominating and Corporate Governance Committee meets to discuss and consider such candidates’ qualifications and then selects a nominee for recommendation to our Board by majority vote. To date, the Ethics, Nominating and Corporate Governance Committee has not paid a fee to any third party to assist in the process of identifying or evaluating director candidates.
Nominations made by stockholders must be made by written notice (setting forth the information required by our bylaws) received by the secretary of our company at least 120 days in advance of an annual meeting or within 10 days of the date on which notice of a special meeting for the election of directors is first given to our stockholders.
Meetings. During the fiscal year ended September 31, 2011, each member of our Board of Directors attended 75% or more of the aggregate of the meetings of our Board of Directors and of the committees on which he or she served.
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Oversight of Risk Management
Since September 2007, Jack Dellafiora has served as our chief compliance officer and, in that position, Mr. Dellafiora directly oversees our enterprise risk management function and reports to our chief executive officer, the Audit Committee and our Board in this capacity. In fulfilling his risk management responsibilities, Mr. Dellafiora works closely with our internal counsel and other members of senior management including, among others, our chief executive officer, chief financial officer, chief accounting officer, chief investment officer and chief operating officer.
Our Board, in its entirety, plays an active role in overseeing management of our risks. Our Board regularly reviews information regarding our credit, liquidity and operations, as well as the risks associated with each. Each committee of our Board plays a distinct role with respect to overseeing management of our risks:
| • | Audit Committee: Our Audit Committee oversees the management of enterprise risks. To this end, our Audit Committee meets at least annually (i) to discuss our risk management guidelines, policies and exposures and (ii) with our independent registered public accounting firm to review our internal control environment and other risk exposures. |
| • | Compensation Committee: Our Compensation Committee oversees the management of risks relating to the fees paid to our Adviser and Administrator under the Advisory Agreement and the Administration Agreement, respectively. In fulfillment of this duty, the Compensation Committee meets at least annually to review these agreements. In addition, the Compensation Committee reviews the performance of our Adviser to determine whether the compensation paid to our executive officers was reasonable in relation to the nature and quality of services performed and whether the provisions of the Advisory Agreement were being satisfactorily performed. |
| • | Ethics, Nominating and Corporate Governance Committee: Our Ethics, Nominating and Corporate Governance Committee manages risks associated with the independence of our Board and potential conflicts of interest. |
While each committee is responsible for evaluating certain risks and overseeing the management of such risks, the committees each report to our Board on a regular basis to apprise our Board regarding the status of remediation efforts of known risks and of any new risks that may have arisen since the previous report.
Summary of Compensation
Executive Compensation
None of our executive officers receive direct compensation from us. We do not currently have any employees and do not expect to have any employees in the foreseeable future. The services necessary for the operation of our business are provided to us by our officers and the other employees of our Adviser and Administrator, pursuant to the terms of the Advisory and Administration Agreements, respectively. Mr. Gladstone, our chairman and chief executive officer, Mr. Brubaker, our vice chairman, chief operating officer and secretary, and Mr. Stelljes, our president and chief investment officer, are all employees of and compensated directly by our Adviser. Our chief financial officer and our treasurer are employees of our Administrator. Under the Administration Agreement, we reimbursed our Administrator for our allocable portion of the salaries of Mr. Gerson, our former treasurer, Mr. Watson, our current chief financial officer and treasurer, and Mr. Gray, our former chief financial officer. For the year ended September 30, 2011, our allocable portion of Mr. Watson’s compensation paid by our Administrator was $43,889 of his salary, $15,073 of his bonus, and $7,517 of the cost of his benefits. During that same year our allocable portion of Mr. Gray’s compensation paid by our Administrator was $16,951 of his salary, $692 of his bonus, and $1,582 of the cost of his benefits. For the year ended September 30, 2010, our allocable portion of Mr. Gray’s compensation paid by our Administrator was: $46,748 of Mr. Gray’s salary, $6,167 of his bonus, and $5,883 of the cost of his benefits. For the year ended September 30, 2009, our allocable portion of Mr. Gray’s compensation paid by our Administrator was: $50,161 of Mr. Gray’s salary, $6,692 of his bonus, and $8,483 of the cost of his benefits.
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Compensation of Directors
The following table shows, for the fiscal year ended September 30, 2011, compensation awarded to or paid to our directors who are not executive officers, which we refer to as our non-employee directors, for all services rendered to us during this period. No compensation is paid to directors who are our executive officers for their service on the Board of Directors. We do not issue stock options and therefore have no information to report relating to stock option grants and exercises for our directors.
| Name |
Aggregate Compensation from Fund ($) |
Total Compensation from Fund and Fund Complex Paid to Directors ($)(1) |
||||||
| Paul W. Adelgren |
$ | 33,000 | $ | 99,000 | ||||
| John Reilly (2) |
$ | 22,000 | $ | 73,000 | ||||
| Michela A. English |
$ | 31,000 | $ | 95,000 | ||||
| Gerard Mead |
$ | 35,000 | $ | 107,000 | ||||
| John H. Outland |
$ | 33,000 | $ | 99,250 | ||||
| Anthony W. Parker |
$ | 34,000 | $ | 104,000 | ||||
| (1) | Includes compensation the director received from Gladstone Investment, as part of our Fund Complex. Also includes compensation the director received from Gladstone Commercial, our affiliate and a real estate investment trust, although not part of our Fund Complex. |
| (2) | Mr. Reilly joined the Board of Directors in January 2011. Accordingly, the amounts in the table above reflect compensation paid to Mr. Reilly for the portion of the year during which he served as a director. |
As compensation for serving on our Board of Directors, each of our independent directors receives an annual fee of $20,000, an additional $1,000 for each Board of Directors meeting attended, and an additional $1,000 for each committee meeting attended if such committee meeting takes place on a day other than when the full Board of Directors meets. In addition, the chairperson of the Audit Committee receives an annual fee of $3,000, and the chairpersons of each of the Compensation and Ethics, Nominating and Corporate Governance committees receive annual fees of $1,000 for their additional services in these capacities. During the fiscal year ended September 30, 2011, we paid total cash compensation of $188,000 to our non-employee directors. We also reimburse our directors for their reasonable out-of-pocket expenses incurred in attending Board of Directors and committee meetings.
We do not pay any compensation to directors who also serve as our officers, or as officers or directors of our Adviser or our Administrator, in consideration for their service to us. Our Board of Directors may change the compensation of our independent directors in its discretion. None of our independent directors received any compensation from us during the fiscal year ended September 30, 2011 other than for Board of Directors or committee service and meeting fees.
Certain Transactions
Investment Advisory and Management Agreement
Management Services
Our Adviser is a Delaware corporation registered as an investment adviser under the Investment Advisers Act of 1940, as amended. Subject to the overall supervision of our Board of Directors, our Adviser provides investment advisory and management services to us. Under the terms of our Advisory Agreement, our Adviser has investment discretion with respect to our capital and, in that regard:
| • | determines the composition of our portfolio, the nature and timing of the changes to our portfolio, and the manner of implementing such changes; |
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| • | identifies, evaluates, and negotiates the structure of the investments we make (including performing due diligence on our prospective portfolio companies); |
| • | closes and monitors the investments we make; and |
| • | makes available on our behalf, and provides if requested, managerial assistance to our portfolio companies. |
Our Adviser’s services under the Advisory Agreement are not exclusive, and it is free to furnish similar services to other entities so long as its services to us are not impaired.
Portfolio Management
Our Adviser takes a team approach to portfolio management; however, the following persons are primarily responsible for the day-to-day management of our portfolio and comprise our Adviser’s investment committee: David Gladstone, Terry Lee Brubaker and George Stelljes III, whom we refer to collectively as the Portfolio Managers. Our investment decisions are made on our behalf by the investment committee of our Adviser by unanimous decision.
Mr. Gladstone has served as the chairman and the chief executive officer of our Adviser, since he founded the Adviser in 2002, along with Mr. Brubaker and Mr. Stelljes. Mr. Brubaker has served as the vice chairman, chief operating officer and secretary of our Adviser since 2002. Mr. Stelljes has served as the president and chief investment officer of our Adviser since 2002. For more complete biographical information on Messrs. Gladstone, Brubaker and Stelljes, please see “Management — Interested Directors.”
The Portfolio Managers are all officers or directors, or both, of our Adviser and our Administrator. David Gladstone is the controlling stockholder of our Adviser, which is the sole member of our Administrator. Although we believe that the terms of the Advisory Agreement are no less favorable to us than those that could be obtained from unaffiliated third parties in arms’ length transactions, our Adviser and its officers and its directors have a material interest in the terms of this agreement. Based on an analysis of publicly available information, the Board believes that the terms and the fees payable under the Advisory Agreement are similar to those of the agreements between other business development companies that do not maintain equity incentive plans and their external investment advisers.
Our Adviser provides investment advisory services to other investment funds in the Gladstone Companies. As such, the Portfolio Managers also are primarily responsible for the day-to-day management of the portfolios of other pooled investment vehicles in the Gladstone Companies that are managed by our Adviser. As of the date hereof, Messrs. Gladstone, Brubaker, and Stelljes are primarily responsible for the day-to-day management of the portfolios of Gladstone Investment, another publicly-traded business development company, Gladstone Commercial, a publicly-traded real estate investment trust, and Gladstone Land Corporation, a private company controlled by Mr. Gladstone that owns farmland in California. As of September 30, 2011, our Adviser had an aggregate of approximately $1.0 billion in total assets under management.
Possible Conflicts of Interest
Our Portfolio Managers provide investment advisory services and serve as officers, directors or principals of the other Gladstone Companies, which operate in the same or a related line of business as we do. Accordingly, they have corresponding obligations to investors in those entities. For example, Mr. Gladstone, our chairman and chief executive officer, is chairman of the board and chief executive officer of our Adviser, Gladstone Investment, Gladstone Commercial, and Gladstone Land with management responsibilities for the other members of the Gladstone Companies. In addition, Mr. Brubaker, our vice chairman, chief operating officer and secretary, is vice chairman, chief operating officer and secretary of our Adviser, Gladstone Investment and Gladstone Commercial, and Mr. Stelljes, our president and chief investment officer, is president and chief
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investment officer of our Adviser and Gladstone Commercial and vice chairman and chief investment officer of Gladstone Investment. Moreover, we may establish other investment vehicles which from time to time may have potentially overlapping investment objectives with those of Gladstone Investment and accordingly may invest in, whether principally or secondarily, asset classes similar to those targeted by us. While the Adviser generally has broad authority to make investments on behalf of the investment vehicles that it advises, our Adviser has adopted investment allocation procedures to address these potential conflicts and intends to direct investment opportunities to the member of the Gladstone Companies with the investment strategy that most closely fits the investment opportunity. Nevertheless, the Portfolio Managers may face conflicts in the allocation of investment opportunities to other entities managed by our Adviser. As a result, it is possible that certain investment opportunities may not be available to other members of the Gladstone Companies or investment funds managed by our Adviser. When the officers of the Adviser identify an investment, they will be forced to choose which investment fund should make the investment in accordance with their investment allocation procedures.
Our affiliate, Gladstone Commercial, may lease property to portfolio companies that we do not control under certain circumstances. We may pursue such transactions only if (i) the portfolio company is not controlled by us or any of our affiliates, (ii) the portfolio company satisfies the tenant underwriting criteria that meets the lease underwriting criteria of Gladstone Commercial, and (iii) the transaction is approved by a majority of our independent directors and a majority of the independent directors of Gladstone Commercial. We expect that any such negotiations between Gladstone Commercial and our portfolio companies would result in lease terms consistent with the terms that the portfolio companies would be likely to receive were they not portfolio companies of ours. Additionally, we may make simultaneous investments in senior syndicated loans with our affiliate, Gladstone Investment. In this regard, our Adviser has adopted allocation procedures designed to ensure fair and equitable allocations of such investments.
Portfolio Manager Compensation
The Portfolio Managers receive compensation from our Adviser in the form of a base salary plus a bonus. Each of the Portfolio Managers’ base salaries is determined by a review of salary surveys for persons with comparable experience who are serving in comparable capacities in the industry. Each Portfolio Manager’s base salary is set and reviewed yearly. Like all employees of the Adviser, a Portfolio Manager’s bonus is tied to the performance of the Adviser and the entities that it advises. A Portfolio Manager’s bonus increases or decreases when the Adviser’s income increases or decreases. The Adviser’s income, in turn, is directly tied to the management and performance fees earned in managing its investment funds, including Gladstone Capital. Pursuant to the Advisory Agreement, the Adviser receives an incentive fee based on net investment income in excess of the hurdle rates and capital gains as set out in the Advisory Agreement.
All compensation of the Portfolio Managers from the Adviser takes the form of cash. The Portfolio Managers are also portfolio managers for other members of the Gladstone Companies, one of which (Gladstone Commercial) had a stock option plan through which the Portfolio Managers have previously received options to purchase stock of those entities. Gladstone Commercial terminated its stock option plan effective December 31, 2006. We also previously had a stock option plan, but it was terminated effective September 30, 2006. These plan terminations were effected in connection with the implementation of new advisory agreements between each of us and Gladstone Commercial with our Adviser, which have been approved by our respective stockholders. All outstanding, unexercised options under our plan were terminated effective September 30, 2006, and all outstanding, unexercised options under the Gladstone Commercial plan were terminated effective December 31, 2006.
Investment Advisory and Management Agreement and Administration Agreement
We are externally managed pursuant to contractual arrangements with our Adviser, under which our Adviser has directly employed our personnel and paid our payroll, benefits, and general expenses directly. The management services and fees in effect under the Advisory Agreement are described below. In addition, we pay our direct expenses including, but not limited to, directors’ fees, legal and accounting fees and stockholder related expenses under the Advisory Agreement.
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The principal executive office of each of the Adviser and the Administrator is located at 1521 Westbranch Drive, Suite 200, McLean, Virginia 22102.
Management services and fees under the Advisory Agreement
Under the Advisory Agreement, we pay our Adviser an annual base management fee of 2% of our average gross assets, which is defined as total assets, including investments made with proceeds of borrowings, less any uninvested cash or cash equivalents resulting from borrowings, valued at the end of the two most recently completed calendar quarters, and appropriately adjusted for any share issuances or repurchases during the current calendar quarter.
We also pay our Adviser a two-part incentive fee under the Advisory Agreement. The first part of the incentive fee is an income-based incentive fee which rewards our Adviser if our quarterly net investment income (before giving effect to any incentive fee) exceeds the hurdle rate. We pay our Adviser an income-based incentive fee with respect to our pre-incentive fee net investment income in each calendar quarter as follows:
| • | no incentive fee in any calendar quarter in which our pre-incentive fee net investment income does not exceed the hurdle rate (7% annualized); |
| • | 100% of our pre-incentive fee net investment income with respect to that portion of such pre-incentive fee net investment income, if any, that exceeds the hurdle rate but is less than 2.1875% in any calendar quarter (8.75% annualized); and |
| • | 20% of the amount of our pre-incentive fee net investment income, if any, that exceeds 2.1875% in any calendar quarter (8.75% annualized). |
Quarterly Incentive Fee Based on Net Investment Income
Pre-incentive fee net investment income (expressed as a percentage of the value of net assets)
Percentage of pre-incentive fee net investment income
allocated to income-based portion of incentive fee
The second part of the incentive fee is a capital gains-based incentive fee that is determined and payable in arrears as of the end of each fiscal year (or upon termination of the Advisory Agreement, as of the termination date), equals 20% of our realized capital gains as of the end of the fiscal year. In determining the capital gains-based incentive fee payable to our Adviser, we calculate the cumulative aggregate realized capital gains and cumulative aggregate realized capital losses since our inception, and the aggregate unrealized capital depreciation as of the date of the calculation, as applicable, with respect to each of the investments in our portfolio. For this purpose, cumulative aggregate realized capital gains, if any, equals the sum of the differences between the net sales price of each investment, when sold, and the original cost of such investment since our inception. Cumulative aggregate realized capital losses equals the sum of the amounts by which the net sales price of each investment, when sold, is less than the original cost of such investment since our inception. Aggregate unrealized capital depreciation equals the sum of the difference, if negative, between the valuation of each investment as of the applicable calculation date and the original cost of such investment. At the end of the applicable year, the amount of capital gains that serves as the basis for our calculation of the capital gains-based incentive fee equals
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the cumulative aggregate realized capital gains less cumulative aggregate realized capital losses, less aggregate unrealized capital depreciation, with respect to our portfolio of investments. If this number is positive at the end of such year, then the capital gains-based incentive fee for such year equals 20% of such amount, less the aggregate amount of any capital gains-based incentive fees paid in respect of our portfolio in all prior years.
Beginning in April 2006, our Board of Directors has accepted from the Adviser unconditional and irrevocable voluntary waivers on a quarterly basis to reduce the annual 2.0% base management fee on senior syndicated loan participations to 0.5%, to the extent that proceeds resulting from borrowings were used to purchase such syndicated loan participations. These waivers were applied through December 31, 2011.
When our Adviser receives fees from our portfolio companies, such as investment banking fees, structuring fees or executive recruiting services fees, 50% or 100% of certain of these fees will be credited against the base management fee that we would otherwise be required to pay to our Adviser.
We pay our direct expenses including, but not limited to, directors’ fees, legal and accounting fees, stockholder-related expenses, and directors and officers insurance under the Advisory Agreement.
During the fiscal years ended September 30, 2011, 2010 and 2009, we incurred total fees of approximately $6.3 million, $4.1 million and $1.7 million, respectively, to our Adviser under the Advisory Agreement.
Duration and Termination
Unless terminated earlier as described below, the Advisory Agreement will remain in effect from year to year if approved annually by our Board of Directors or by the affirmative vote of the holders of a majority of our outstanding voting securities, including, in either case, approval by a majority of our directors who are not interested persons. On July 12, 2011, we renewed the Advisory Agreement through August 31, 2012. The Advisory Agreement will automatically terminate in the event of its assignment. The Advisory Agreement may be terminated by either party without penalty upon 60 days’ written notice to the other. See “Risk Factors — We are dependent upon our key management personnel and the key management personnel of our Adviser, particularly David Gladstone, George Stelljes III and Terry Lee Brubaker, and on the continued operations of our Adviser, for our future success.”
Administration Agreement
Pursuant to the Administration Agreement, our Administrator furnishes us with clerical, bookkeeping and record keeping services and our Administrator also performs, or oversees the performance of, our required administrative services, which include, among other things, being responsible for the financial records which we are required to maintain and preparing reports to our stockholders and reports filed with the SEC. In addition, our Administrator assists us in determining and publishing our net asset value, oversees the preparation and filing of our tax returns, the printing and dissemination of reports to our stockholders, and generally oversees the payment of our expenses and the performance of administrative and professional services rendered to us by others. Payments under the Administration Agreement are equal to an amount based upon our allocable portion of our Administrator’s overhead in performing its obligations under the Administration Agreement, including rent and our allocable portion of the salaries and benefits expenses of our chief financial officer, chief accounting officer, chief compliance officer, internal counsel and their respective staffs. On July 12, 2011, we renewed the Administration Agreement through August 31, 2012.
During the fiscal years ended September 30, 2011, 2010 and 2009, we incurred total fees of approximately $0.7 million, $0.8 million and $0.9 million, respectively, to our Administrator under the Administration Agreement.
Based on an analysis of publicly available information, the Board believes that the terms and the fees payable under the Advisory and Administration Agreements are similar to those of the agreements between other
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business development companies that do not maintain equity incentive plans and their external investment advisers. David Gladstone, Terry Lee Brubaker and George Stelljes III are all officers or directors, or both, of our Adviser and our Administrator. David Gladstone is the controlling stockholder of our Adviser, which is the sole member of our Administrator. Although we believe that the terms of the Advisory and Administration Agreements are no less favorable to us than those that could be obtained from unaffiliated third parties in arms’ length transactions, our Adviser and its officers and its directors have a material interest in the terms of these agreements.
Consulting Services Agreements
As a business development company, we make available significant managerial assistance to our portfolio companies and provide other services to such portfolio companies. Neither we nor our Adviser currently receives fees in connection with managerial assistance. Our Adviser provides other services to our portfolio companies and receives fees for these other services.
On October 25, 2010, our Adviser received a payment of $277,015 from Lindmark Acquisition, LLC, or Lindmark, a wholly-owned portfolio company of ours which we own through one of our wholly-owned subsidiaries, Lindmark Holdings Corp., in connection with the performance of certain consulting services rendered from March 18, 2009 through March 31, 2010 pursuant to that certain Consulting Agreement between our Adviser and Lindmark, effective October 10, 2010 and that certain Engagement Letter Agreement between our Adviser and Lindmark Outdoor Advertising, LLC, dated November 19, 2009. Beginning with April 1, 2010, Lindmark has received current invoices and has remitted payment for such in a timely manner. Payments for services rendered beginning April 1, 2010 and ending September 30, 2010 totaled $40,000. Payments for services rendered during the year ended September 30, 2011 totaled $8,698.
On October 29, 2010, our Adviser received a payment of $213,191 from BERTL, Inc., or Bertl, one of our wholly-owned portfolio companies, in connection with the performance of certain consulting services rendered from March 19, 2009 through June 30, 2010 pursuant to that certain Engagement Letter Agreement, dated March 19, 2009 between Bertl and our Adviser. Beginning with the quarter ended September 30, 2010, Bertl has received current quarterly invoices from our Adviser for the provision of such services and has paid current through the quarter ended September 30, 2010. Payments for services rendered during the year ended September 30, 2010 totaled $7,800.
Loan Servicing Agreement
Our Adviser services the loans pledged under our credit facility pursuant to a loan servicing agreement with our wholly-owned subsidiary, Business Loan, in return for a 1.5% annual fee, based on the monthly aggregate outstanding loan balance of the loans pledged under our credit facility. Loan servicing fees paid to our Adviser under this agreement directly reduce the amount of fees payable under the Advisory Agreement. Loan servicing fees of approximately $3.4 million, $3.4 million and $5.6 million were incurred for the fiscal years ended September 30, 2011, 2010 and 2009, respectively, all of which were directly credited against the amount of the base management fee due to our Adviser under the Advisory Agreement.
Loans
At September 30, 2010, we had a loan outstanding in the principal amount of $5,900,010 to Mr. Gladstone, which was due and payable in cash on August 23, 2010 and, because the loan was not repaid on its due date, it is currently in default. During the fiscal year ended September 30, 2011, Mr. Gladstone repaid a total of $3,151,006 of the principal balance. As a result, the remaining principal balance on the loan as of September 30, 2011 was $2,749,004. In connection with Mr. Gladstone’s payments during the fiscal year ended September 30, 2011, we released our first priority security interest on 210,000 shares of Mr. Gladstone’s pledged shares on this loan, leaving a balance of 183,334 shares owned by Mr. Gladstone pledged as collateral for the loan as of
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September 30, 2011. This loan was originally extended in connection with the exercise of stock options by Mr. Gladstone under our former Amended and Restated 2001 Equity Incentive Plan, as amended, or the 2001 Plan, which was terminated on September 30, 2006, and the loan was made on terms available to all eligible participants under the 2001 Plan. The loan is evidenced by a full recourse promissory note secured by the shares of common stock purchased upon the exercise of the options as well as additional collateral. The interest rate on the loan is 4.9% per annum, plus an additional 2.0% per annum for periods following the date of default. Interest is due quarterly and Mr. Gladstone has made each of his quarterly interest payments to date. The Sarbanes-Oxley Act of 2002 prohibits us from making loans to our executive officers, although certain loans outstanding prior to July 30, 2002, including the promissory note we received from Mr. Gladstone, were expressly exempted from this prohibition. In addition, this loan meets the requirements set forth in Section 57(j) of the 1940 Act.
Also at September 30, 2010, we had two loans outstanding in the principal amounts of $275,010 and $474,990, respectively, to Laura Gladstone, a managing director of ours and the daughter of Mr. Gladstone. The outstanding principal amount of the $275,010 loan was originally due on August 23, 2010 and, because the loan was not repaid on its due date, it is now in default. During the fiscal year ended September 30, 2011, Ms. Gladstone repaid $75,000 of the principal balance of that loan. The outstanding principal amount of the $474,990 loan is due on July 13, 2015. Both of the loans were issued in connection with the exercise of stock options under the 2001 Plan by Ms. Gladstone, and were made on terms available to all eligible participants under the 2001 Plan. These loans are evidenced by full recourse promissory notes and are secured by the shares of common stock purchased upon the exercise of the options as well as additional collateral. The loans are collateralized by a first security interest in 18,334 and 31,666 of Ms. Gladstone’s pledged shares, respectively. To date, we have not released our security interest in any of the shares pledged on these loans. The interest rate on the $200,010 loan is 4.9% per annum, plus an additional 2.0% per annum for periods following the date of default. The interest rate on the $474,990 loan is 8.26% per annum. Interest on the loans is due quarterly and Ms. Gladstone has made each of her quarterly interest payments to date with respect to both loans. These loans meet the requirements set forth in Section 57(j) of the 1940 Act. Mr. Gladstone has not received, nor will he receive in the future, any direct or indirect benefit from these loans.
On September 7, 2010, each of Mr. Gladstone and Ms. Gladstone executed a redemption agreement with us, each of which provides that, pursuant to the terms and conditions thereof, we will automatically accept and retire the shares of our common stock pledged as collateral for their loans in partial or full satisfaction, as applicable, of Mr. Gladstone’s or Ms. Gladstone’s obligations to us under the loans that are in default at such time, if ever, that the trading price of our common stock reaches $15 per share. In entering into the redemption agreements, we reserved all of our existing rights under the promissory notes and related pledge agreements, including but not limited to the ability to foreclose on the shares of common stock pledged as collateral for the loans, or additional pledged collateral, at any time.
Indemnification
In our articles of incorporation and bylaws, we have agreed to indemnify certain officers and directors by providing, among other things, that we will indemnify such officer or director, under the circumstances and to the extent provided for therein, for expenses, damages, judgments, fines and settlements he or she may be required to pay in actions or proceedings which he or she is or may be made a party by reason of his or her position as our director, officer or other agent, to the fullest extent permitted under Maryland law and our bylaws. Notwithstanding the foregoing, the indemnification provisions shall not protect any officer or director from liability to us or our stockholders as a result of any action that would constitute willful misfeasance, bad faith or gross negligence in the performance of such officer’s or director’s duties, or reckless disregard of his or her obligations and duties.
Each of the Advisory and Administration Agreements provide that, absent willful misfeasance, bad faith or gross negligence in the performance of their duties or by reason of the reckless disregard of their duties and obligations (as the same may be determined in accordance with the 1940 Act and any interpretations or guidance by the SEC or its staff thereunder), our Adviser, our Administrator and their respective officers, managers, agents, employees, controlling persons, members and any other person or entity affiliated with them are entitled to indemnification from us for any damages, liabilities, costs and expenses (including reasonable attorneys’ fees and amounts reasonably paid in settlement) arising from the rendering of our Adviser’s or Administrator’s services under the Advisory or Administration Agreements or otherwise as an investment adviser of ours.
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CONTROL PERSONS AND PRINCIPAL STOCKHOLDERS
The following table sets forth, as of February 16, 2012 (unless otherwise indicated), the beneficial ownership of each current director, each of the executive officers, the executive officers and directors as a group and each stockholder known to our management to own beneficially more than 5% of the outstanding shares of common stock. To our knowledge, no person beneficially owns more than 5% of our Series 2016 Term Preferred Stock. Except as otherwise noted, the address of the individuals below is c/o Gladstone Capital Corporation, 1521 Westbranch Drive, Suite 200, McLean, VA 22102.
| Beneficial Ownership(1) | ||||||||||||||||
| Name and Address |
Number of Shares |
Percent of Total |
Dollar Range
of Equity Securities of the Company Owned by Directors and Executive Officers(2) |
Aggregate Dollar Range of Equity Securities of all Funds Overseen by Directors and Executive Officers in Family of Investment Companies(2)(3) |
||||||||||||
| Executive Officers and Directors: |
|
|||||||||||||||
| David Gladstone |
1,143,317 | 5.4 | % | Over $100,000 | Over $100,000 | |||||||||||
| Terry Lee Brubaker(4) |
198,217 | 1.0 | % | Over $100,000 | Over $100,000 | |||||||||||
| George Stelljes III |
16,582 | * | Over $100,000 | Over $100,000 | ||||||||||||
| David Watson |
100 | * | $1 - $10,000 | $10,001 -$50,000 | ||||||||||||
| Melissa Morrison |
— | * | $1 - $10,000 | $10,001 -$50,000 | ||||||||||||
| Anthony W. Parker |
6,845 | * | $50,001 -$100,000 | Over $100,000 | ||||||||||||
| David A.R. Dullum(5) |
4,000 | * | $10,001 - $50,000 | Over $100,000 | ||||||||||||
| Michela A. English |
2,500 | * | $10,001 - $50,000 | $50,001 -$100,000 | ||||||||||||
| Paul W. Adelgren |
3,687 | * | $10,001 - $50,000 | Over $100,000 | ||||||||||||
| John H. Outland |
1,405 | * | $10,001 - $50,000 | $50,001 -$100,000 | ||||||||||||
| John Reilly |
3,400 | * | $10,001 - $50,000 | Over $100,000 | ||||||||||||
| All executive officers and directors as a group (11 persons) |
1,380,053 | 6.6 | % | N/A | N/A | |||||||||||
| * | Less than 1% |
| (1) | This table is based upon information supplied by officers, directors and principal stockholders. Unless otherwise indicated in the footnotes to this table and subject to community property laws where applicable, we believe that each of the stockholders named in this table has sole voting and sole investment power with respect to the shares indicated as beneficially owned. Applicable percentages are based on 21,000,160 shares outstanding on February 16, 2012. |
| (2) | Ownership calculated in accordance with Rule 16a-1(a)(2) of the Exchange Act. The dollar range of our equity securities beneficially owned is calculated by multiplying the closing price of Common Stock as reported on The NASDAQ Global Select Market as of February 16, 2012, times the number of shares beneficially owned. |
| (3) | Each of our directors and executive officers, is also a director or executive officer, or both, of Gladstone Investment Corporation, our affiliate and a business development company, and Gladstone Commercial Corporation, our affiliate and a real estate investment trust, each of which is also externally managed by our Adviser. |
| (4) | Includes 75,114 shares owned by Mr. Brubaker’s spouse with respect to which Mr. Brubaker disclaims beneficial ownership. |
| (5) | Includes 2,000 shares owned by Mr. Dullum’s spouse with respect to which Mr. Dullum disclaims beneficial ownership. |
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We have adopted a dividend reinvestment plan that provides for reinvestment of our distributions on behalf of our stockholders upon their election as provided below. As a result, if our Board of Directors authorizes, and we declare, a cash dividend, then our stockholders who have “opted in” to our dividend reinvestment plan will not receive cash dividends but, instead, such cash dividends will automatically be reinvested in additional shares of our common stock.
Pursuant to our dividend reinvestment plan, if your shares of our common stock are registered in your own name you can have all distributions reinvested in additional shares of our common stock by Computershare Shareholder Services LLC, the plan agent, if you enroll in the dividend reinvestment plan by delivering an authorization form to the plan agent prior to the corresponding dividend declaration date. The plan agent will effect purchases of our common stock under the dividend reinvestment plan in the open market. If you do not elect to participate in the dividend reinvestment plan, you will receive all distributions in cash paid by check mailed directly to you (or if you hold your shares in street or other nominee name, then to your nominee) as of the relevant record date, by the plan agent, as our dividend disbursing agent. If your shares are held in the name of a broker or nominee or if you are transferring such an account to a new broker or nominee, you should contact the broker or nominee to determine whether and how they may participate in the dividend reinvestment plan.
The plan agent serves as agent for the holders of our common stock in administering the dividend reinvestment plan. After we declare a dividend, the plan agent will, as agent for the participants, receive the cash payment and use it to buy common stock on The NASDAQ Global Select Market or elsewhere for the participants’ accounts. The price of the shares will be the average market price at which such shares were purchased by the plan agent.
Participants in the dividend reinvestment plan may withdraw from the dividend reinvestment plan upon written notice to the plan agent. Such withdrawal will be effective immediately if received not less than ten days prior to a dividend record date; otherwise, it will be effective the day after the related dividend distribution date. When a participant withdraws from the dividend reinvestment plan or upon termination of the dividend reinvestment plan as provided below, certificates for whole shares of common stock credited to his or her account under the dividend reinvestment plan will be issued and a cash payment will be made for any fractional share of common stock credited to such account.
The plan agent will maintain each participant’s account in the dividend reinvestment plan and will furnish monthly written confirmations of all transactions in such account, including information needed by the stockholder for personal and tax records. Common stock in the account of each dividend reinvestment plan participant will be held by the plan agent in non-certificated form in the name of such participant. Proxy materials relating to our stockholders’ meetings will include those shares purchased as well as shares held pursuant to the dividend reinvestment plan.
In the case of participants who beneficially own shares that are held in the name of banks, brokers or other nominees, the plan agent will administer the dividend reinvestment plan on the basis of the number of shares of common stock certified from time to time by the record holders as the amount held for the account of such beneficial owners. Shares of our common stock may be purchased by the plan agent through any of the underwriters, acting as broker or dealer.
We pay the plan agent’s fees for the handling or reinvestment of dividends and other distributions. Each participant in the dividend reinvestment plan pays a pro rata share of brokerage commissions incurred with respect to the plan agent’s open market purchases in connection with the reinvestment of distributions. There are no other charges to participants for reinvesting distributions.
Distributions are taxable whether paid in cash or reinvested in additional shares, and the reinvestment of distributions pursuant to the dividend reinvestment plan will not relieve participants of any U.S. federal income tax or state income tax that may be payable or required to be withheld on such distributions. For more information regarding taxes that our stockholders may be required to pay, see “Material U.S. Federal Income Tax Considerations.”
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Experience under the dividend reinvestment plan may indicate that changes are desirable. Accordingly, we reserve the right to amend or terminate the dividend reinvestment plan as applied to any distribution paid subsequent to written notice of the change sent to participants in the dividend reinvestment plan at least 90 days before the record date for the distribution. The dividend reinvestment plan also may be amended or terminated by the plan agent with our prior written consent, on at least 90 days’ written notice to participants in the dividend reinvestment plan. All correspondence concerning the reinvestment plan should be directed to the plan agent, Computershare Shareholder Services LLC, by mail at 480 Washington Boulevard, Jersey City, NJ 07310 or by phone at 866-214-7543.
MATERIAL U.S. FEDERAL INCOME TAX CONSIDERATIONS
Regulated Investment Company Status
In order to maintain our qualification for treatment as a RIC under Subchapter M of the Code, we generally must distribute to our stockholders, for each taxable year, at least 90% of our investment company taxable income, which is generally our ordinary income plus short-term capital gains. We refer to this as the annual distribution requirement. We must also meet several additional requirements, including:
| • | Business Development Company Status. At all times during each taxable year, we must maintain our status as a business development company; |
| • | Income source requirements. At least 90% of our gross income for each taxable year must be from dividends, interest, payments with respect to securities loans, gains from sales or other dispositions of securities or other income derived with respect to our business of investing in securities, and net income derived from an interest in a qualified publicly traded partnership; and |
| • | Asset diversification requirements. As of the close of each quarter of our taxable year: (1) at least 50% of the value of our assets must consist of cash, cash items, U.S. government securities, the securities of other regulated investment companies and other securities to the extent that (a) we do not hold more than 10% of the outstanding voting securities of an issuer of such other securities and (b) such other securities of any one issuer do not represent more than 5% of our total assets, and (2) no more than 25% of the value of our total assets may be invested in the securities of one issuer (other than U.S. government securities or the securities of other regulated investment companies), or of two or more issuers that are controlled by us and are engaged in the same or similar or related trades or businesses or in the securities of one or more qualified publicly traded partnerships. |
Failure to Qualify as a RIC. If we are unable to qualify for treatment as a RIC, we will be subject to tax on all of our taxable income at regular corporate rates. We would not be able to deduct distributions to stockholders, nor would we be required to make such distributions. Distributions would be taxable to our stockholders as dividend income to the extent of our current and accumulated earnings and profits. Subject to certain limitations under the Code, corporate distributees would be eligible for the dividends received deduction. Distributions in excess of our current and accumulated earnings and profits would be treated first as a return of capital to the extent of the stockholder’s tax basis, and then as a gain realized from the sale or exchange of property. If we fail to meet the RIC requirements for more than two consecutive years and then seek to requalify as a RIC, we would be required to recognize a gain to the extent of any unrealized appreciation on our assets unless we make a special election to pay corporate-level tax on any such unrealized appreciation recognized during the succeeding 10-year period. Absent such special election, any gain we recognized would be deemed distributed to our stockholders as a taxable distribution.
Qualification as a RIC. If we qualify as a RIC and distribute to stockholders each year in a timely manner at least 90% of our investment company taxable income, we will not be subject to federal income tax on the portion of our taxable income and gains we distribute to stockholders. We would, however, be subject to a 4%
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nondeductible federal excise tax if we do not distribute, actually or on a deemed basis, 98% of our ordinary income and 98.2% of our capital gain net income. The excise tax would apply only to the amount by which 98% of our ordinary income or 98.2% of our capital gain net income exceeds the amount of income we distribute, actually or on a deemed basis, to stockholders. We will be subject to regular corporate income tax, currently at rates up to 35%, on any undistributed income, including both ordinary income and capital gains. We intend to retain some or all of our capital gains, but to designate the retained amount as a deemed distribution. In that case, among other consequences, we will pay tax on the retained amount, each stockholder will be required to include its share of the deemed distribution in income as if it had been actually distributed to the stockholder and the stockholder will be entitled to claim a credit or refund equal to its allocable share of the tax we pay on the retained capital gain. The amount of the deemed distribution net of such tax will be added to the stockholder’s cost basis for its common stock. Since we expect to pay tax on any retained capital gains at our regular corporate capital gain tax rate, and since that rate is in excess of the maximum rate currently payable by individuals on long-term capital gains, the amount of tax that individual stockholders will be treated as having paid will exceed the tax they owe on the capital gain dividend and such excess may be claimed as a credit or refund against the stockholder’s other tax obligations. A stockholder that is not subject to U.S. federal income tax or tax on long-term capital gains would be required to file a U.S. federal income tax return on the appropriate form in order to claim a refund for the taxes we paid. We will also be subject to alternative minimum tax, but any tax preference items would be apportioned between us and our stockholders in the same proportion that distributions, other than capital gain dividends, paid to each stockholder bear to our taxable income determined without regard to the dividends paid deduction.
From time to time, we acquire debt obligations that are issued at a discount, which may include loans we make that are accompanied by warrants, that bear interest at rates that are not either fixed rates or certain qualified variable rates or that are not unconditionally payable at least annually over the life of the obligation. In such cases, we are required to include in taxable income each year a portion of the original issue discount, or OID, that accrues over the life of the obligation. Such OID is included in our investment company taxable income even though we receive no cash corresponding to such discount amount. As a result, we may be required to make additional distributions corresponding to such OID amounts in order to satisfy the annual distribution requirement and to continue to qualify as a RIC or to avoid the 4% excise tax. This could mean that we may be required to sell temporary investments or other assets to meet the RIC distribution requirements.
Taxation of Our U.S. Stockholders
Distributions. For any period during which we qualify for treatment as a RIC for federal income tax purposes, distributions to our stockholders attributable to our investment company taxable income generally will be taxable as ordinary income to stockholders to the extent of our current or accumulated earnings and profits. Any distributions in excess of our earnings and profits will first be treated as a return of capital to the extent of the stockholder’s adjusted basis in his or her shares of common stock and thereafter as gain from the sale of shares of our common stock. Distributions of our long-term capital gains, designated by us as such, will be taxable to stockholders as long-term capital gains regardless of the stockholder’s holding period for its common stock and whether the distributions are paid in cash or invested in additional common stock. Corporate stockholders are generally eligible for the 70% dividends received deduction with respect to ordinary income, but not with respect to capital gain dividends to the extent such amount designated by us does not exceed the dividends received by us from domestic corporations. Any dividend declared by us in October, November or December of any calendar year, payable to stockholders of record on a specified date in such a month and actually paid during January of the following year, will be treated as if it were paid by us and received by the stockholders on December 31 of the previous year. In addition, we may elect to relate a dividend back to the prior taxable year if we (1) declare such dividend prior to the 15th day of the 9th month following the close of that taxable year, or any applicable extended due date of our tax return for such prior taxable year (2) make the election in that tax return, and (3) distribute such amount in the 12-month period following the close of the taxable year but not later than our first payment of the same type of dividend following such declaration. Any such election will not alter the general rule that a stockholder will be treated as receiving a dividend in the taxable year in which the dividend is made, subject to the October, November, December rule described above.
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In general, the tax rates applicable to our dividends other than dividends designated as capital gain dividends will be the standard ordinary income tax rates, and not the lower federal income tax rate applicable to “qualified dividend income.” If we distribute dividends that are attributable to actual dividend income received by us that is eligible to be, and is, designated by us as qualified dividend income, such dividends would be eligible for such lower federal income tax rate. For this purpose, “qualified dividend income” means dividends received by us from United States corporations and qualifying foreign corporations, provided that both we and the stockholder recipient of our dividends satisfy certain holding period and other requirements in respect of our shares (in the case of our stockholder) and the stock of such corporations (in our case). However, we do not anticipate receiving or distributing a significant amount of qualified dividend income.
If a stockholder participates in our dividend reinvestment plan, any dividends reinvested under the plan will be taxable to the stockholder to the same extent, and with the same character, as if the stockholder had received the dividend in cash. The stockholder will have an adjusted basis in the additional common shares purchased through the plan equal to the amount of the reinvested dividend. The additional shares will have a new holding period commencing on the day following the day on which the shares are credited to the stockholder’s account.
Sale of Our Shares. A U.S. stockholder generally will recognize taxable gain or loss if the U.S. stockholder sells or otherwise disposes of his, her or its shares of our common stock. Any gain arising from such sale or disposition generally will be treated as long-term capital gain or loss if the U.S. stockholder has held his, her or its shares for more than one year. Otherwise, it will be classified as short-term capital gain or loss. However, any capital loss arising from the sale or disposition of shares of our common stock held for six months or less will be treated as long-term capital loss to the extent of the amount of capital gain dividends received, or undistributed capital gain deemed received, with respect to such shares. Under the tax laws in effect as of the date of this prospectus, individual U.S. stockholders are subject to a maximum federal income tax rate of 15% on their net capital gain (i.e., the excess of realized net long-term capital gain over realized net short-term capital loss for a taxable year) including any long-term capital gain derived from an investment in our shares. Such rate is lower than the maximum rate on ordinary income currently payable by individuals. Corporate U.S. stockholders currently are subject to federal income tax on net capital gain at the same rates applied to their ordinary income (currently up to a maximum of 35%). Capital losses are subject to limitations on use for both corporate and non-corporate stockholders.
Backup Withholding. We may be required to withhold federal income tax, or backup withholding, currently at a rate of 28%, from all taxable dividends to any non-corporate U.S. stockholder (1) who fails to furnish us with a correct taxpayer identification number or a certificate that such stockholder is exempt from backup withholding, or (2) with respect to whom the Internal Revenue Service, or IRS, notifies us that such stockholder has failed to properly report certain interest and dividend income to the IRS and to respond to notices to that effect. An individual’s taxpayer identification number is generally his or her social security number. Any amount withheld under backup withholding is allowed as a credit against the U.S. stockholder’s federal income tax liability, provided that proper information is provided to the IRS.
REGULATION AS A BUSINESS DEVELOPMENT COMPANY
We are a closed-end, non-diversified management investment company that has elected to be regulated as a business development company under Section 54 of the 1940 Act. As such, we are subject to regulation under the 1940 Act. The 1940 Act contains prohibitions and restrictions relating to transactions between business development companies and their affiliates, principal underwriters and affiliates of those affiliates or underwriters and requires that a majority of the directors be persons other than “interested persons,” as defined in the 1940 Act. In addition, the 1940 Act provides that we may not change the nature of our business so as to cease to be, or to withdraw our election as, a business development company unless approved by a majority of our outstanding voting securities, as defined in the 1940 Act.
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We intend to conduct our business so as to retain our status as a business development company. A business development company may use capital provided by public stockholders and from other sources to invest in long-term private investments in businesses. A business development company provides stockholders the ability to retain the liquidity of a publicly traded stock while sharing in the possible benefits, if any, of investing in primarily privately owned companies. In general, a business development company must have been organized and have its principal place of business in the United States and must be operated for the purpose of making certain types of investments in assets described in Sections 55(a)(1)-(3) of the 1940 Act.
Qualifying Assets
Under the 1940 Act, a business development company may not acquire any asset other than assets of the type listed in Section 55(a) of the 1940 Act, which are referred to as qualifying assets, unless, at the time the acquisition is made, qualifying assets, other than assets defined in Section 55(a)(7) (“operating assets”), which includes certain interests in furniture, equipment, real estate, or leasehold improvements, represent at least 70% of the company’s total assets, exclusive of operating assets. The types of qualifying assets in which we may invest under the 1940 Act include, but are not limited to, the following:
(1) Securities purchased in transactions not involving any public offering from the issuer of such securities, which issuer is an eligible portfolio company. An eligible portfolio company is generally defined in the 1940 Act as any issuer which:
(a) is organized under the laws of, and has its principal place of business in, any state or states in the United States;
(b) is not an investment company (other than a small business investment company wholly owned by the business development company) or otherwise excluded from the definition of investment company; and
(c) satisfies one of the following:
(i) it does not have any class of securities with respect to which a broker or dealer may extend margin credit;
(ii) it is controlled by the business development company, alone or as part of a group, and the business development company in fact exercises a controlling influence over the management or policies of the portfolio company and, as a result of such control, has an affiliated person who is a director of the portfolio company;
(iii) it has total assets of not more than $4 million and capital and surplus of not less than $2 million;
(iv) it does not have any class of securities listed on a national securities exchange; or
(v) it has a class of securities listed on a national securities exchange, with an aggregate market value of outstanding voting and non-voting equity of less than $250 million.
(2) Securities received in exchange for or distributed on or with respect to securities described in (1) above, or pursuant to the exercise of options, warrants or rights relating to such securities.
(3) Cash, cash items, government securities or high quality debt securities maturing in one year or less from the time of investment.
Asset Coverage
We are permitted, under specified conditions, to issue multiple classes of indebtedness and one class of stock senior to our common stock if our asset coverage, as defined in the 1940 Act, is at least 200% immediately after each such issuance. In addition, while senior securities are outstanding, we must make provisions to prohibit
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any distribution to our stockholders or the repurchase of such securities or shares unless we meet the applicable asset coverage ratios at the time of the distribution or repurchase. We may also borrow amounts up to 5% of the value of our total assets for temporary purposes. The 1940 Act requires, among other things, that (1) immediately after issuance and before any dividend or distribution is made with respect to our common stock or before any purchase of our common stock is made, the involuntary liquidation preference of any outstanding preferred stock, together with all other senior securities, must not exceed an amount equal to 50% of our total assets after deducting the amount of such dividend, distribution or purchase price, as the case may be, and (2) the holders of shares of preferred stock, if any are issued, must be entitled as a class to elect two directors at all times and to elect a majority of the directors if dividends on the preferred stock are in arrears by two years or more.
Significant Managerial Assistance
A business development company generally must make available significant managerial assistance to issuers of certain of its portfolio securities that the business development company counts as a qualifying asset for the 70% test described above. Making available significant managerial assistance means, among other things, any arrangement whereby the business development company, through its directors, officers or employees, offers to provide, and, if accepted, does so provide, significant guidance and counsel concerning the management, operations or business objectives and policies of a portfolio company. Significant managerial assistance also includes the exercise of a controlling influence over the management and policies of the portfolio company. However, with respect to certain, but not all such securities, where the business development company purchases such securities in conjunction with one or more other persons acting together, one of the other persons in the group may make available such managerial assistance, or the business development company may exercise such control jointly.
Investment Policies
We seek to achieve a high level of current income and capital gains through investments in debt securities and preferred and common stock that we acquired in connection with buyout and other recapitalizations. The following investment policies may not be changed without the approval of our Board of Directors:
| • | We will at all times conduct our business so as to retain our status as a business development company. In order to retain that status we must continue to meet the definition of business development company contained in the 1940 Act, which requires us, among other things, to be operated for the purpose of investing in certain categories of qualifying assets. In addition, we may not acquire any assets (other than operating assets or qualifying assets) if, after giving effect to such acquisition, the value of our “qualifying assets,” less our operating assets, is less than 70% of the value of our total assets (excluding our operating assets). We anticipate that the securities we seek to acquire, as well as temporary investments, will generally be qualifying assets. |
| • | We will at all times endeavor to conduct our business so as to retain our status as a regulated investment company under the Code. In order to do so, we must meet income source, asset diversification and annual distribution requirements. We may issue senior securities, such as debt or preferred stock, to the extent permitted by the 1940 Act for the purpose of making investments, to fund share repurchases, or for temporary emergency or other purposes. |
With the exception of our policy to conduct our business as a business development company, these policies are not fundamental and may be changed without stockholder approval.
Pending Exemptive Application
We have filed an exemptive application with the SEC. We have received comments from the SEC and have filed a revised and restated exemptive application with the SEC. The exemptive request, if granted by the SEC, would permit us, under certain circumstances, to co-invest with other business development companies that are managed by the Adviser. There are no assurances that the SEC will grant our exemptive request.
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Our authorized capital stock consists of 50,000,000 shares of capital stock, $0.001 par value per share, all of which is currently designated as common stock 46,000,000 or term preferred stock 4,000,000. Under our articles of incorporation, our Board of Directors is authorized to classify and reclassify any unissued shares of capital stock without requiring stockholder approval. The following summary description of our capital stock is not necessarily complete and is subject to, and qualified in its entirety by, our articles of incorporation. Please review our articles of incorporation for a more detailed description of the provisions summarized below.
Common Stock
As of the date hereof, we have 21,000,160 shares of common stock outstanding. All shares of our common stock have equal rights as to earnings, assets, dividends and voting privileges and, when issued, will be duly authorized, validly issued, fully paid and nonassessable. Distributions may be paid to the holders of our common stock if, as and when declared by our Board of Directors out of funds legally available. Shares of our common stock have no preemptive, conversion or redemption rights and are freely transferable, except where their transfer is restricted by federal and state securities laws. In the event of our liquidation, dissolution or winding up, each share of our common stock is entitled to share ratably in all of our assets that are legally available for distribution after we pay all debts and other liabilities and subject to any preferential rights of holders of our preferred stock, if any is outstanding at the time. Each share of our common stock is entitled to one vote and does not have cumulative voting rights, which means that holders of a majority of such shares, if they so choose, could elect all of the directors, and holders of less than a majority of such shares would, in that case, be unable to elect any director. Our common stock is listed on The NASDAQ Global Select Market under the ticker symbol “GLAD.”
Preferred Stock
Our articles of incorporation give the Board of Directors the authority, without further action by stockholders, to issue shares of preferred stock in one or more series and to fix the rights, preferences, privileges, qualifications and restrictions granted to or imposed upon such preferred stock, including dividend rights, conversion rights, voting rights, rights and terms of redemption, and liquidation preference, any or all of which may be greater than the rights of the common stock. Thus, the Board of Directors could authorize the issuance of shares of preferred stock with terms and conditions which could have the effect of delaying, deferring or preventing a transaction or a change in control that might involve a premium price for holders of our common stock or otherwise be in their best interest. The issuance of preferred stock could adversely affect the voting power of holders of common stock and reduce the likelihood that such holders will receive dividend payments and payments upon liquidation, and could also decrease the market price of our common stock.
You should note, however, that any issuance of preferred stock must comply with the requirements of the 1940 Act. The 1940 Act requires, among other things, that (1) immediately after issuance and before any dividend or other distribution is made with respect to our common stock and before any purchase of common stock is made, such preferred stock together with all other senior securities must not exceed an amount equal to 50% of our total assets after deducting the amount of such dividend, distribution or purchase price, as the case may be, and (2) the holders of shares of preferred stock, if any are issued, must be entitled as a class to elect two directors at all times and to elect a majority of the directors if dividends on such preferred stock are in arrears by two years or more. Certain matters under the 1940 Act require the separate vote of the holders of any issued and outstanding preferred stock. If we offer preferred stock under this prospectus, we will issue an appropriate prospectus supplement. You should read that prospectus supplement for a description of the preferred stock, including, but not limited to, whether there will be an arrearage in the payment of dividends or sinking fund installments, if any, restrictions with respect to the declaration of dividends, requirements in connection with the maintenance of any ratio or assets, or creation or maintenance of reserves, or provisions for permitting or restricting the issuance of additional securities.
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Term Preferred Stock
Of the 4,000,000 shares of our capital stock designated as term preferred stock, 1,610,000 of such shares are designated as 7.125% Series 2016 Term Preferred Shares, which we refer to as the Series 2016 Term Preferred Stock. As of the date hereof, we have 1,539,882 shares of Series 2016 Term Preferred Stock outstanding. Our Series 2016 Term Preferred Shares are listed on the New York Stock Exchange under the symbol “GLADPRA.”
The following is a summary of the material terms of the Series 2016 Term Preferred Stock. The following summary is qualified in its entirety by reference to the Articles Supplementary Establishing and Fixing the Rights and Preferences of the Term Preferred Shares, including Appendix A thereto relating to the Series 2016 Term Preferred Stock, which are filed as an exhibit to the registration statement of which this prospectus is a part:
Dividend Rights
The holders of Series 2016 Term Preferred Stock are entitled to monthly dividends in the amount of 7.125% per annum on the stated liquidation preference of Series 2016 Term Preferred Stock, or $0.1484375 per share, and we are prohibited from issuing dividends or making distributions to the holders of our common stock while any shares of Series 2016 Term Preferred Stock are outstanding, unless all accrued and unpaid dividends on the Series 2016 Term Preferred Stock are paid in their entirety. In the event that we fail to pay dividends on the 2016 Series Term Preferred Stock when required, the dividend rate on the 2016 Series Term Preferred Stock will increase to 9.125% per annum until such default is cured.
Voting Rights
The holders of the Series 2016 Term Preferred Stock are entitled to one vote per share and do not have cumulative voting. The holders of the Series 2016 Term Preferred Stock generally vote together with the holders of our common stock, except that the holders of the Series 2016 Term Preferred Stock have the right to elect two of our directors. Furthermore, during any period that we owe accumulated dividends, whether or not earned or declared, on our Series 2016 Term Preferred Shares equal to at least two full years of dividends, the holders of Series 2016 Term Preferred Stock will have the right to elect a majority of our Board of Directors.
Liquidation Rights
The Series 2016 Term Preferred Stock has a liquidation preference over our common stock equal to $25 per share, plus all accrued but unpaid dividends in the event of a dissolution, liquidation or winding up of our affairs.
Redemption
The Series 2016 Term Preferred Stock has a mandatory term redemption date of December 31, 2016, however, if we fail to maintain asset coverage as required by the 1940 Act, of at least 200%, we will be required to redeem a portion of the Series 2016 Term Preferred Stock to enable us to meet the required asset coverage. We also have the option to redeem such shares at any time on or after December 31, 2012, subject to the requirement to pay an optional redemption premium on the amount of shares redeemed if we optionally redeem such shares before December 31, 2014. In the event that we fail to redeem the Series 2016 Term Preferred Stock when due, the dividend rate will increase to 9.125% per annum until such shares are redeemed.
Subscription Rights
General
We may issue subscription rights to our stockholders to purchase common stock or preferred stock. Subscription rights may be issued independently or together with any other offered security and may or may not be transferable by the person purchasing or receiving the subscription rights. In connection with any
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subscription rights offering to our stockholders, we may enter into a standby underwriting arrangement with one or more underwriters pursuant to which such underwriters would purchase any offered securities remaining unsubscribed after such subscription rights offering to the extent permissible under applicable law. In connection with a subscription rights offering to our stockholders, we would distribute certificates evidencing the subscription rights and a prospectus supplement to our stockholders on the record date that we set for receiving subscription rights in such subscription rights offering.
The applicable prospectus supplement would describe the following terms of subscription rights in respect of which this prospectus is being delivered:
| • | the period of time the offering would remain open (which in no event would be less than fifteen business days); |
| • | the title of such subscription rights; |
| • | the exercise price for such subscription rights; |
| • | the ratio of the offering (which in no event would exceed one new share of common stock for each three rights held); |
| • | the number of such subscription rights issued to each stockholder; |
| • | the extent to which such subscription rights are transferable; |
| • | if applicable, a discussion of the material U.S. federal income tax considerations applicable to the issuance or exercise of such subscription rights; |
| • | the date on which the right to exercise such subscription rights shall commence, and the date on which such rights shall expire (subject to any extension); |
| • | the extent to which such subscription rights include an over-subscription privilege with respect to unsubscribed securities; |
| • | if applicable, the material terms of any standby underwriting or other purchase arrangement that we may enter into in connection with the subscription rights offering; and |
| • | any other terms of such subscription rights, including terms, procedures and limitations relating to the exchange and exercise of such subscription rights. |
Exercise of Subscription Rights
Each subscription right would entitle the holder of the subscription right to purchase for cash such amount of shares of common stock, or preferred stock, at such exercise price as shall in each case be set forth in, or be determinable as set forth in, the prospectus supplement relating to the subscription rights offered thereby. Subscription rights may be exercised at any time up to the close of business on the expiration date for such subscription rights set forth in the prospectus supplement. After the close of business on the expiration date, all unexercised subscription rights would become void.
Subscription rights may be exercised as set forth in the prospectus supplement relating to the subscription rights offered thereby. Upon receipt of payment and the subscription rights certificate properly completed and duly executed at the corporate trust office of the subscription rights agent or any other office indicated in the prospectus supplement we will forward, as soon as practicable, the shares of common stock, or preferred stock, purchasable upon such exercise. We may determine to offer any unsubscribed offered securities directly to persons other than stockholders, to or through agents, underwriters or dealers or through a combination of such methods, including pursuant to standby underwriting arrangements, as set forth in the applicable prospectus supplement.
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Warrants
The following is a general description of the terms of the warrants we may issue from time to time. Particular terms of any warrants we offer will be described in the prospectus supplement relating to such warrants.
We may issue warrants to purchase shares of our common stock. Such warrants may be issued independently or together with shares of common stock or other equity or debt securities and may be attached or separate from such securities. We will issue each series of warrants under a separate warrant agreement to be entered into between us and a warrant agent. The warrant agent will act solely as our agent and will not assume any obligation or relationship of agency for or with holders or beneficial owners of warrants.
A prospectus supplement will describe the particular terms of any series of warrants we may issue, including the following:
| • | the title of such warrants; |
| • | the aggregate number of such warrants; |
| • | the price or prices at which such warrants will be issued; |
| • | the currency or currencies, including composite currencies, in which the price of such warrants may be payable; |
| • | if applicable, the designation and terms of the securities with which the warrants are issued and the number of warrants issued with each such security or each principal amount of such security; |
| • | the number of shares of common stock purchasable upon exercise of one warrant and the price at which and the currency or currencies, including composite currencies, in which these shares may be purchased upon such exercise; |
| • | the date on which the right to exercise such warrants shall commence and the date on which such right will expire; |
| • | whether such warrants will be issued in registered form or bearer form; |
| • | if applicable, the minimum or maximum amount of such warrants which may be exercised at any one time; |
| • | if applicable, the date on and after which such warrants and the related securities will be separately transferable; |
| • | information with respect to book-entry procedures, if any; |
| • | the terms of the securities issuable upon exercise of the warrants; |
| • | if applicable, a discussion of certain U.S. federal income tax considerations; and |
| • | any other terms of such warrants, including terms, procedures and limitations relating to the exchange and exercise of such warrants. |
We and the warrant agent may amend or supplement the warrant agreement for a series of warrants without the consent of the holders of the warrants issued thereunder to effect changes that are not inconsistent with the provisions of the warrants and that do not materially and adversely affect the interests of the holders of the warrants.
Prior to exercising their warrants, holders of warrants will not have any of the rights of holders of the securities purchasable upon such exercise, including the right to receive dividends, if any, or payments upon our liquidation, dissolution or winding up or to exercise any voting rights.
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Under the 1940 Act, we may generally only offer warrants (except for warrants expiring not later than 120 days after issuance and issued exclusively and ratably to a class of our security holders) on the condition that (1) the warrants expire by their terms within ten years; (2) the exercise or conversion price is not less than the current market value of the securities underlying the warrants at the date of issuance; (3) our stockholders authorize the proposal to issue such warrants (our stockholders approved such a proposal to issue long-term rights, including warrants, in connection with our 2008 annual meeting of stockholders) and a “required” majority of our Board of Directors approves such issuance on the basis that the issuance is in the best interests of Gladstone Capital and our stockholders; and (4) if the warrants are accompanied by other securities, the warrants are not separately transferable unless no class of such warrants and the securities accompanying them has been publicly distributed. A “required” majority of our Board of Directors is a vote of both a majority of our directors who have no financial interest in the transaction and a majority of the directors who are not interested persons of the company. The 1940 Act also provides that the amount of our voting securities that would result from the exercise of all outstanding warrants, options and subscription rights at the time of issuance may not exceed 25% of our outstanding voting securities.
Debt Securities
Any debt securities that we issue may be senior or subordinated in priority of payment. If we offer debt securities under this prospectus, we will provide a prospectus supplement that describes the ranking, whether senior or subordinated, the specific designation, the aggregate principal amount, the purchase price, the maturity, the redemption terms, the interest rate or manner of calculating the interest rate, the time of payment of interest, if any, the terms for any conversion or exchange, including the terms relating to the adjustment of any conversion or exchange mechanism, the listing, if any, on a securities exchange, the name and address of the trustee and any other specific terms of the debt securities.
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CERTAIN PROVISIONS OF MARYLAND LAW AND OF OUR
ARTICLES OF INCORPORATION AND BYLAWS
Our articles of incorporation and bylaws and the Maryland General Corporation Law contain certain provisions that could make more difficult the acquisition of us by means of a tender offer, a proxy contest or otherwise. These provisions are expected to discourage certain types of coercive takeover practices and inadequate takeover bids and to encourage persons seeking to acquire control of us to negotiate first with our Board of Directors. We believe that the benefits of these provisions outweigh the potential disadvantages of discouraging such proposals because, among other things, negotiation of such proposals might result in an improvement of their terms. The description set forth below is intended as a summary only and is qualified in its entirety by reference to our articles of incorporation and bylaws, as amended, which are filed as exhibits to the registration statement of which this prospectus is a part.
Classified Board of Directors
In accordance with our bylaws, our Board of Directors is divided into three classes of directors serving staggered three-year terms. Under the Maryland General Corporation Law, each class must consist as nearly as possible of one-third of the directors then elected to our Board of Directors and our board is currently divided into three classes two of which have three directors and one of which has four directors. A classified board may render more difficult a change in control of us or removal of our incumbent management. We believe, however, that the longer time required to elect a majority of a classified board of directors will help to ensure continuity and stability of our management and policies.
Our classified board could have the effect of making the replacement of incumbent directors more time consuming and difficult. Because our directors may only be removed for cause, at least two annual meetings of stockholders, instead of one, will generally be required to effect a change in a majority of our Board of Directors. Thus, our classified board could increase the likelihood that incumbent directors will retain their positions. The staggered terms of directors may delay, defer or prevent a tender offer or an attempt to change control of us or another transaction that might involve a premium price for our common stock that might be in the best interest of our stockholders.
Number of Directors; Removal; Vacancies
Our articles of incorporation provide that the number of directors will be determined pursuant to our bylaws and our bylaws provide that a majority of our entire Board of Directors may at any time increase or decrease the number of directors. In addition, our bylaws provide that the number of directors shall not be increased by 50% or more in any 12-month period without the approval of at least 662/3% of the members of our Board of Directors then in office. Our bylaws provide that any vacancies will be filled by the vote of a majority of the remaining directors, even if less than a quorum, and the directors so appointed shall hold office until the next annual meeting of stockholders and until their successors are elected and qualified. Accordingly, our Board of Directors could temporarily prevent any stockholder from enlarging the Board of Directors and filling the new directorships with such stockholder’s own nominees.
Our bylaws also provide that, except as may be required by law or our articles of incorporation, our directors may only be removed for cause and only by the affirmative vote of 75% of the voting power of all of the shares of our capital stock then entitled to vote generally in the election of directors, voting together as a single class.
Stockholder Approval Requirements
Maryland General Corporation Law provides that stockholder action can be taken only at an annual or special meeting of stockholders or by unanimous written consent in lieu of a meeting. These provisions may have the effect of delaying consideration of a stockholder proposal until the next annual meeting.
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Advance Notice Provisions for Stockholder Nominations and Stockholder Proposals
Our bylaws establish an advance notice procedure for stockholders to make nominations of candidates for election as directors or to bring other business before an annual meeting of our stockholders, which we refer to as the stockholder notice procedure.
The stockholder notice procedure provides that (1) only persons who are nominated by, or at the direction of, the Board of Directors, or by a stockholder who has given timely written notice containing specified information to our secretary prior to the meeting at which directors are to be elected, will be eligible for election as directors and (2) at an annual meeting only such business may be conducted as has been brought before the meeting by, or at the direction of, our Board of Directors or by a stockholder who has given timely written notice to our secretary of such stockholder’s intention to bring such business before the meeting. Except for stockholder proposals submitted in accordance with the federal proxy rules as to which the requirements specified therein shall control, notice of stockholder nominations or business to be conducted at an annual meeting must be received by us prior to the first anniversary of the previous year’s annual meeting. If we call a special meeting of stockholders for the purpose of electing directors, stockholder nominations must be received by us not earlier than the 90th day prior to such meeting and not later than the later of the 60th day prior to such meeting or the 10th day following the day on which notice of the date of a special meeting of stockholders was given.
The purpose of requiring stockholders to give us advance notice of nominations and other business is to afford our Board of Directors a meaningful opportunity to consider the qualifications of the proposed nominees and the advisability of the other proposed business and, to the extent deemed necessary or desirable by the Board of Directors, to inform stockholders and make recommendations about such qualifications or business, as well as to provide a more orderly procedure for conducting meetings of stockholders. Although our bylaws do not give our Board of Directors any power to disapprove stockholder nominations for the election of directors or proposals for action, they may have the effect of precluding a contest for the election of directors or the consideration of stockholder proposals if proper procedures are not followed and of discouraging or deterring a third party from conducting a solicitation of proxies to elect its own slate of directors or to approve its own proposal without regard to whether consideration of such nominees or proposals might be harmful or beneficial to us and our stockholders.
Authority to Issue Preferred Stock without Stockholder Approval
Our articles of incorporation permit our Board of Directors to issue up to 50,000,000 shares of capital stock. In addition, our Board of Directors, without any action by our stockholders, may amend our articles of incorporation from time to time to increase or decrease the aggregate number of shares or the number of shares of any class or series of stock that we have authority to issue. Our Board of Directors may classify or reclassify any unissued common stock or preferred stock and establish the preferences, conversion or other rights, voting powers, restrictions, limitations as to distributions, qualifications and terms or conditions of redemption of any such stock. Thus, our Board of Directors could authorize the issuance of preferred stock with terms and conditions that could have a priority as to distributions and amounts payable upon liquidation over the rights of the holders of our common stock.
Amendment of Articles of Incorporation and Bylaws
Our articles of incorporation may be amended, altered, changed or repealed, subject to the resolutions providing for any class or series of preferred stock, only by the affirmative vote of both a majority of the members of our Board of Directors then in office and a majority of the voting power of all of the shares of our capital stock entitled to vote generally in the election of directors, voting together as a single class.
Our articles of incorporation also provide that the bylaws may be adopted, amended, altered, changed or repealed by the affirmative vote of the majority of our Board of Directors then in office. Any action taken by our
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stockholders with respect to adopting, amending, altering, changing or repealing our bylaws may be taken only by the affirmative vote of the holders of at least 75% of the voting power of all of the shares of our capital stock then entitled to vote generally in the election of directors, voting together as a single class.
These provisions are intended to make it more difficult for stockholders to circumvent certain other provisions contained in our articles of incorporation and bylaws, such as those that provide for the classification of our Board of Directors. These provisions, however, also will make it more difficult for stockholders to amend the articles of incorporation or bylaws without the approval of the Board of Directors, even if a majority of the stockholders deems such amendment to be in the best interests of all stockholders.
Limitation on Liability of Directors
We have adopted provisions in our articles of incorporation, which, to the fullest extent permitted by Maryland law and as limited by the 1940 Act, limit the liability of our directors and officers for monetary damages. Under our articles of incorporation we shall indemnify (1) our directors and officers to the fullest extent permitted by the General Laws of the State of Maryland as limited by the 1940 Act or any valid rule, regulation or order of the SEC thereunder, including the advance of expenses under the procedures and to the fullest extent permitted by law and (2) other employees and agents to such extent as shall be authorized by our Board of Directors or our bylaws and be permitted by law. The effect of these provisions is to eliminate our rights and the rights of our stockholders (through stockholders’ derivative suits on our behalf) to recover monetary damages against one of our directors or officers for breach of the fiduciary duty of care as a director or officer (including breaches resulting from negligent or grossly negligent behavior) except to the extent this limitation is not permitted under applicable law, including the 1940 Act. These provisions do not limit or eliminate our rights or the rights of any of our stockholders to seek non-monetary relief such as an injunction or rescission in the event one of our directors or officers breaches his or her duty of care. These provisions also will not alter the liability of our directors or officers under federal securities laws.
Shares of closed-end investment companies frequently trade at discounts to net asset value. We cannot predict whether our shares will trade above, at or below net asset value. The market price of our common stock is determined by, among other things, the supply and demand for our shares, our investment performance and investor perception of our overall attractiveness as an investment as compared with alternative investments. Our Board of Directors has authorized our officers, in their discretion and subject to compliance with the 1940 Act and other applicable law, to purchase on the open market or in privately negotiated transactions, outstanding shares of our common stock in the event that our shares trade at a discount to net asset value. We can not assure you that we will ever conduct any open market purchases and if we do conduct open market purchases, we may terminate them at any time.
In addition, if our shares publicly trade for a substantial period of time at a substantial discount to our then current net asset value per share, our Board of Directors will consider authorizing periodic repurchases of our shares or other actions designed to eliminate the discount. Our Board of Directors would consider all relevant factors in determining whether to take any such actions, including the effect of such actions on our status as a RIC under the Code and the availability of cash to finance these repurchases in view of the restrictions on our ability to borrow. We can not assure you that any share repurchases will be made or that if made, they will reduce or eliminate market discount. Should we make any such repurchases in the future, we expect that we would make them at prices at or below the then current net asset value per share. Any such repurchase would cause our total assets to decrease, which may have the effect of increasing our expense ratio. We may borrow money to finance the repurchase of shares subject to the limitations described in this prospectus. Any interest on such borrowing for this purpose would reduce our net income.
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We may sell the Securities through underwriters or dealers, directly to one or more purchasers, including existing stockholders in a rights offering, or through agents or through a combination of any such methods of sale. In the case of a rights offering, the applicable prospectus supplement will set forth the number of shares of our common stock issuable upon the exercise of each right and the other terms of such rights offering. Any underwriter or agent involved in the offer and sale of the Securities will also be named in the applicable prospectus supplement.
The distribution of the Securities may be effected from time to time in one or more transactions at a fixed price or prices, which may be changed, in “at the market offerings” within the meaning of Rule 415(a)(4) of the Securities Act, at prevailing market prices at the time of sale, at prices related to such prevailing market prices, or at negotiated prices, provided, however, that in the case of our common stock, the offering price per share less any underwriting commissions or discounts must equal or exceed the net asset value per share of our common stock except (i) in connection with a rights offering to our existing stockholders, (ii) with the consent of the majority of our common stockholders, or (iii) under such other circumstances as the SEC may permit.
In connection with the sale of the Securities, underwriters or agents may receive compensation from us or from purchasers of the Securities, for whom they may act as agents, in the form of discounts, concessions or commissions. Underwriters may sell the Securities to or through dealers and such dealers may receive compensation in the form of discounts, concessions or commissions from the underwriters and/or commissions from the purchasers for whom they may act as agents. Underwriters, dealers and agents that participate in the distribution of the Securities may be deemed to be underwriters under the Securities Act, and any discounts and commissions they receive from us and any profit realized by them on the resale of the Securities may be deemed to be underwriting discounts and commissions under the Securities Act. Any such underwriter or agent will be identified and any such compensation received from us will be described in the applicable prospectus supplement. The maximum commission or discount to be received by any Financial Industry Regulatory Authority, or FINRA, member or independent broker-dealer will not exceed 10%.
We may enter into derivative transactions with third parties, or sell securities not covered by this prospectus to third parties in privately negotiated transactions. If the applicable prospectus supplement indicates, in connection with those derivatives, the third parties may sell Securities covered by this prospectus and the applicable prospectus supplement, including in short sale transactions. If so, the third party may use securities pledged by us or borrowed from us or others to settle those sales or to close out any related open borrowings of stock, and may use securities received from us in settlement of those derivatives to close out any related open borrowings of stock. The third parties in such sale transactions will be underwriters and, if not identified in this prospectus, will be identified in the applicable prospectus supplement (or a post-effective amendment).
Any of our common stock sold pursuant to a prospectus supplement will be listed on The NASDAQ Global Select Market, or another exchange on which our common stock is traded.
Under agreements into which we may enter, underwriters, dealers and agents who participate in the distribution of the Securities may be entitled to indemnification by us against certain liabilities, including liabilities under the Securities Act. Underwriters, dealers and agents may engage in transactions with, or perform services for, us in the ordinary course of business.
If so indicated in the applicable prospectus supplement, we will authorize underwriters or other persons acting as our agents to solicit offers by certain institutions to purchase the Securities from us pursuant to contracts providing for payment and delivery on a future date. Institutions with which such contracts may be made include commercial and savings banks, insurance companies, pension funds, investment companies,
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educational and charitable institutions and others, but in all cases such institutions must be approved by us. The obligations of any purchaser under any such contract will be subject to the condition that the purchase of the Securities shall not at the time of delivery be prohibited under the laws of the jurisdiction to which such purchaser is subject. The underwriters and such other agents will not have any responsibility in respect of the validity or performance of such contracts. Such contracts will be subject only to those conditions set forth in the prospectus supplement, and the prospectus supplement will set forth the commission payable for solicitation of such contracts.
In order to comply with the securities laws of certain states, if applicable, the Securities offered hereby will be sold in such jurisdictions only through registered or licensed brokers or dealers. In addition, in certain states, the Securities may not be sold unless they have been registered or qualified for sale in the applicable state or an exemption from the registration or qualification requirement is available and is complied with.
CUSTODIAN, TRANSFER AND DIVIDEND PAYING AGENT AND REGISTRAR
Our securities are held under a custodian agreement with The Bank of New York Mellon Corp. The address of the custodian is: 500 Ross Street, Suite 935, Pittsburgh, PA 15262. Our assets are held under bank custodianship in compliance with the 1940 Act. Securities held through our wholly-owned subsidiary, Business Loan, are held under a custodian agreement with The Bank of New York Mellon Corp., which acts as collateral custodian pursuant to Business Loan’s credit facility with Key Equipment Finance Inc. and certain other parties. The address of the collateral custodian is 500 Ross Street, Suite 935, Pittsburgh, PA 15262. Computershare Shareholder Services LLC acts as our transfer and dividend paying agent and registrar. The principal business address of Computershare Shareholder Services LLC is 480 Washington Boulevard, Jersey City, New Jersey 07310, telephone number 866-214-7543. Computershare Shareholder Services LLC also maintains an internet website at http://www.bnymellon.com/shareowner/equityaccess.com.
BROKERAGE ALLOCATION AND OTHER PRACTICES
Since we generally acquire and dispose of our investments in privately negotiated transactions, we will infrequently use securities brokers or dealers in the normal course of our business. Subject to policies established by our Board of Directors, our Adviser will be primarily responsible for the execution of transactions involving publicly traded securities and the allocation of brokerage commissions in respect thereof, if any. In the event that our Adviser executes such transactions, we do not expect our Adviser to execute transactions through any particular broker or dealer, but we would expect our Adviser to seek to obtain the best net results for us, taking into account such factors as price (including the applicable brokerage commission or dealer spread), size of order, difficulty of execution, and operational facilities of the firm and the firm’s risk and skill in positioning blocks of securities. While we expect that our Adviser generally will seek reasonably competitive trade execution costs, we will not necessarily pay the lowest spread or commission available. Subject to applicable legal requirements, our Adviser may select a broker based partly upon brokerage or research services provided to us, our Adviser and any of its other clients. In return for such services, we may pay a higher commission than other brokers would charge if our Adviser determines in good faith that such commission is reasonable in relation to the value of the brokerage and research services provided by such broker or dealer viewed in terms either of the particular transaction or our Adviser’s overall responsibilities with respect to all of our Adviser’s clients.
PROXY VOTING POLICIES AND PROCEDURES
We have delegated our proxy voting responsibility to our Adviser. The proxy voting policies and procedures of our Adviser are set out below. The guidelines are reviewed periodically by our Adviser and our directors who are not “interested persons,” and, accordingly, are subject to change.
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Introduction
As an investment adviser registered under the Advisers Act, our Adviser has a fiduciary duty to act solely in our best interests. As part of this duty, our Adviser recognizes that it must vote our securities in a timely manner free of conflicts of interest and in our best interests.
Our Adviser’s policies and procedures for voting proxies for its investment advisory clients are intended to comply with Section 206 of, and Rule 206(4)-6 under, the Advisers Act.
Proxy Policies
Our Adviser votes proxies relating to our portfolio securities in what it perceives to be the best interest of our stockholders. Our Adviser reviews on a case-by-case basis each proposal submitted to a stockholder vote to determine its effect on the portfolio securities we hold. In most cases our Adviser will vote in favor of proposals that our Adviser believes are likely to increase the value of the portfolio securities we hold. Although our Adviser will generally vote against proposals that may have a negative effect on our portfolio securities, our Adviser may vote for such a proposal if there exist compelling long-term reasons to do so.
Our proxy voting decisions are made by our Adviser’s portfolio managers. To ensure that our Adviser’s vote is not the product of a conflict of interest, our Adviser requires that (1) anyone involved in the decision-making process disclose to our Adviser’s investment committee any potential conflict that he or she is aware of and any contact that he or she has had with any interested party regarding a proxy vote; and (2) employees involved in the decision-making process or vote administration are prohibited from revealing how our Adviser intends to vote on a proposal in order to reduce any attempted influence from interested parties. Where conflicts of interest may be present, our Adviser will disclose such conflicts to us, including our independent directors and may request guidance from us on how to vote such proxies.
Proxy Voting Records
You may obtain information without charge about how the Adviser voted proxies by making a written request for proxy voting information to:
Michael LiCalsi, Internal Counsel
c/o Gladstone Capital Corporation
1521 Westbranch Dr.
McLean, VA 22102
The legality of securities offered hereby will be passed upon for us by Cooley LLP, Reston, Virginia. Certain legal matters will be passed upon for the underwriters, if any, by the counsel named in the accompanying prospectus supplement.
The financial statements as of September 30, 2011 and September 30, 2010 and for each of the three years in the period ended September 30, 2011 and management’s assessment of the effectiveness of internal control over financial reporting (which is included in Management’s Report on Internal Control over Financial Reporting) as of September 30, 2011 included in this prospectus have been so included in reliance on the report of PricewaterhouseCoopers LLP, an independent registered public accounting firm, given on the authority of said firm as experts in auditing and accounting.
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INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
| Audited Consolidated Financial Statements |
||
| F-2 | ||
| F-3 | ||
| Consolidated Statements of Assets and Liabilities as of September 30, 2011 and September 30, 2010 |
F-4 | |
| F-5 | ||
| F-6 | ||
| F-7 | ||
| Consolidated Schedules of Investments as of September 30, 2011 and September 30, 2010 |
F-8 | |
| F-22 | ||
| Financial Statements (Unaudited) |
||
| F-51 | ||
| F-52 | ||
| F-53 | ||
| F-54 | ||
| Condensed Consolidated Schedules of Investments as of December 31, 2011 and September 30, 2011 |
F-55 | |
| F-71 |
F-1
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Report of Management on Internal Controls
To the Stockholders and Board of Directors of Gladstone Capital Corporation:
Our management is responsible for establishing and maintaining adequate internal control over financial reporting as defined in Rule 13a-15(f) under the Securities Exchange Act of 1934. Our internal control over financial reporting is designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles and include those policies and procedures that: (1) pertain to the maintenance of records that in reasonable detail accurately and fairly reflect our transactions and the dispositions of our assets; (2) provide reasonable assurance that our transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that our receipts and expenditures are being made only in accordance with appropriate authorizations; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of our assets that could have a material effect on our financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Therefore, even those systems determined to be effective can provide only reasonable assurance with respect to financial statement preparation and presentation.
Under the supervision and with the participation of our management, we assessed the effectiveness of our internal control over financial reporting as of September 30, 2011, using the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in Internal Control—Integrated Framework. Based on its assessment, management has concluded that our internal control over financial reporting was effective as of September 30, 2011.
The effectiveness of the Company’s internal control over financial reporting as of September 30, 2011 has been audited by PricewaterhouseCoopers LLP, an independent registered public accounting firm, as stated in their report which appears herein.
November 14, 2011
F-2
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Report of Independent Registered Public Accounting Firm
To the Stockholders and Board of Directors of Gladstone Capital Corporation:
In our opinion, the accompanying consolidated statements of assets and liabilities, including the consolidated schedules of investments, and the related consolidated statements of operations, changes in net assets and cash flows present fairly, in all material respects, the financial position of Gladstone Capital Corporation and its subsidiaries (the “Company”) at September 30, 2011 and 2010, and the results of their operations and their cash flows for each of the three years in the period ended September 30, 2011 in conformity with accounting principles generally accepted in the United States of America. In addition, in our opinion, the financial statement schedule listed in the accompanying index under Item 15(a)(2) presents fairly, in all material respects, the information set forth therein when read in conjunction with the related consolidated financial statements. Also in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of September 30, 2011, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). The Company’s management is responsible for these financial statements and financial statement schedule, for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Report on Internal Control over Financial Reporting. Our responsibility is to express opinions on these financial statements, on the financial statement schedule, and on the Company’s internal control over financial reporting based on our integrated audits. We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement and whether effective internal control over financial reporting was maintained in all material respects. Our audits of the financial statements included examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audits also included performing such other procedures as we considered necessary in the circumstances. Our procedures included confirmation of securities at September 30, 2011, by correspondence with the custodian, and where replies were not received, we performed other auditing procedures. We believe that our audits provide a reasonable basis for our opinions.
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
/s/ PricewaterhouseCoopers LLP
Philadelphia, PA
November 14, 2011
F-3
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CONSOLIDATED STATEMENTS OF ASSETS AND LIABILITIES
(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA)
| September 30, | ||||||||
| 2011 | 2010 | |||||||
| ASSETS |
||||||||
| Investments at fair value: |
||||||||
| Non-Control/Non-Affiliate investments (Cost of $288,266 and $244,140, respectively) |
$ | 257,302 | $ | 223,737 | ||||
| Control investments (Cost of $94,549 and $54,076, respectively) |
45,645 | 33,372 | ||||||
|
|
|
|
|
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| Total investments (Cost of $382,815 and $298,216, respectively) |
302,947 | 257,109 | ||||||
| Cash |
6,732 | 7,734 | ||||||
| Interest receivable – investments in debt securities |
3,066 | 2,648 | ||||||
| Interest receivable – employees (A) |
— | 104 | ||||||
| Due from custodian |
2,547 | 255 | ||||||
| Deferred financing fees |
650 | 1,266 | ||||||
| Prepaid assets |
996 | 799 | ||||||
| Other assets |
686 | 603 | ||||||
|
|
|
|
|
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| TOTAL ASSETS |
$ | 317,624 | $ | 270,518 | ||||
|
|
|
|
|
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| LIABILITIES |
||||||||
| Borrowings at fair value (Cost of $99,400 and $16,800, respectively) |
$ | 100,012 | $ | 17,940 | ||||
| Accounts payable and accrued expenses |
513 | 752 | ||||||
| Interest payable |
289 | 693 | ||||||
| Fee due to Administrator (A) |
194 | 267 | ||||||
| Fees due to Adviser (A) |
1,760 | 673 | ||||||
| Other liabilities |
1,135 | 947 | ||||||
|
|
|
|
|
|||||
| TOTAL LIABILITIES |
103,903 | 21,272 | ||||||
|
|
|
|
|
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| NET ASSETS |
$ | 213,721 | $ | 249,246 | ||||
|
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|
|
|
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| ANALYSIS OF NET ASSETS |
||||||||
| Common stock, $0.001 par value, 50,000,000 shares authorized and 21,039,242 shares issued and outstanding at September 30, 2011 and 2010 |
$ | 21 | $ | 21 | ||||
| Capital in excess of par value |
326,913 | 326,935 | ||||||
| Notes receivable – employees (A) |
(3,858 | ) | (7,103 | ) | ||||
| Cumulative net unrealized depreciation on investments |
(79,867 | ) | (41,108 | ) | ||||
| Cumulative net unrealized appreciation on borrowings |
(612 | ) | (1,140 | ) | ||||
| Underdistributed (overdistributed) net investment income |
108 | (1,103 | ) | |||||
| Accumulated net realized losses |
(28,984 | ) | (27,256 | ) | ||||
|
|
|
|
|
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| TOTAL NET ASSETS |
$ | 213,721 | $ | 249,246 | ||||
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|
|
|
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| NET ASSETS PER COMMON SHARE |
$ | 10.16 | $ | 11.85 | ||||
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| (A) | Refer to Note 4—Related Party Transactions for additional information. |
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL STATEMENTS.
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CONSOLIDATED STATEMENTS OF OPERATIONS
(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA)
| Year ended September 30, | ||||||||||||
| 2011 | 2010 | 2009 | ||||||||||
| INVESTMENT INCOME |
||||||||||||
| Interest income |
||||||||||||
| Non-Control/Non-Affiliate investments |
$ | 27,497 | $ | 29,938 | $ | 40,747 | ||||||
| Control investments |
5,139 | 2,645 | 933 | |||||||||
| Cash |
1 | 1 | 11 | |||||||||
| Notes receivable from employees (A) |
431 | 437 | 468 | |||||||||
|
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|
|
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|
|
|||||||
| Total interest income |
33,068 | 33,021 | 42,159 | |||||||||
|
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|
|
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| Other income |
||||||||||||
| Non-Control/Non-Affiliate investments |
1,518 | 2,518 | 459 | |||||||||
| Control investments |
625 | — | — | |||||||||
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|
|
|
|
|
|||||||
| Total investment income |
35,211 | 35,539 | 42,618 | |||||||||
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|
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| EXPENSES |
||||||||||||
| Loan servicing fee (A) |
3,355 | 3,412 | 5,620 | |||||||||
| Base management fee (A) |
2,376 | 2,673 | 2,005 | |||||||||
| Incentive fee (A) |
4,598 | 1,823 | 3,326 | |||||||||
| Administration fee (A) |
729 | 807 | 872 | |||||||||
| Interest expense |
2,676 | 4,390 | 7,949 | |||||||||
| Amortization of deferred financing fees |
1,420 | 1,490 | 2,778 | |||||||||
| Professional fees |
1,118 | 2,101 | 1,586 | |||||||||
| Compensation expense (A) |
— | 245 | — | |||||||||
| Other expenses |
1,170 | 1,259 | 1,131 | |||||||||
|
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|
|
|
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| Expenses before credits from Adviser |
17,442 | 18,200 | 25,267 | |||||||||
| Credit to fees from Adviser (A) |
(643 | ) | (420 | ) | (3,680 | ) | ||||||
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|
|
|
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| Total expenses net of credits to fees |
16,799 | 17,780 | 21,587 | |||||||||
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|
|
|
|
|
|||||||
| NET INVESTMENT INCOME |
18,412 | 17,759 | 21,031 | |||||||||
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|
|||||||
| REALIZED AND UNREALIZED (LOSS) GAIN |
||||||||||||
| Net realized loss on investments |
(1,280 | ) | (2,893 | ) | (26,411 | ) | ||||||
| Net unrealized (depreciation) appreciation on investments |
(38,759 | ) | 2,317 | 9,513 | ||||||||
| Realized loss on settlement of derivative |
— | — | (304 | ) | ||||||||
| Net unrealized appreciation on derivative |
— | — | 304 | |||||||||
| Net unrealized depreciation (appreciation) on borrowings |
528 | (789 | ) | (350 | ) | |||||||
|
|
|
|
|
|
|
|||||||
| Net loss on investments, derivative and borrowings |
(39,511 | ) | (1,365 | ) | (17,248 | ) | ||||||
|
|
|
|
|
|
|
|||||||
| NET (DECREASE) INCREASE IN NET ASSETS RESULTING FROM OPERATIONS |
$ | (21,099 | ) | $ | 16,394 | $ | 3,783 | |||||
|
|
|
|
|
|
|
|||||||
| NET (DECREASE) INCREASE IN NET ASSETS RESULTING FROM OPERATIONS PER COMMON SHARE |
||||||||||||
| Basic and Diluted |
$ | (1.00 | ) | $ | 0.78 | $ | 0.18 | |||||
|
|
|
|
|
|
|
|||||||
| WEIGHTED AVERAGE SHARES OF COMMON STOCK OUTSTANDING |
||||||||||||
| Basic and Diluted |
21,039,242 | 21,060,351 | 21,087,574 | |||||||||
| (A) | Refer to Note 4—Related Party Transactions for additional information. |
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL STATEMENTS.
F-5
Table of Contents
CONSOLIDATED STATEMENTS OF CHANGES IN NET ASSETS
(DOLLAR AMOUNTS IN THOUSANDS)
| Year ended September 30, | ||||||||||||
| 2011 | 2010 | 2009 | ||||||||||
| Operations: |
||||||||||||
| Net investment income |
$ | 18,412 | $ | 17,759 | $ | 21,031 | ||||||
| Net loss on sale of investments |
(1,280 | ) | (2,893 | ) | (26,411 | ) | ||||||
| Net unrealized (depreciation) appreciation on investments |
(38,759 | ) | 2,317 | 9,513 | ||||||||
| Realized loss on settlement of derivative |
— | — | (304 | ) | ||||||||
| Net unrealized appreciation on derivative |
— | — | 304 | |||||||||
| Net unrealized depreciation (appreciation) on borrowings |
528 | (789 | ) | (350 | ) | |||||||
|
|
|
|
|
|
|
|||||||
| Net (decrease) increase in net assets from operations |
(21,099 | ) | 16,394 | 3,783 | ||||||||
|
|
|
|
|
|
|
|||||||
| Distributions to stockholders from: |
||||||||||||
| Net investment income |
(17,672 | ) | (16,907 | ) | (20,795 | ) | ||||||
| Long term capital gains |
— | — | (27 | ) | ||||||||
| Return of capital |
— | (783 | ) | (5,748 | ) | |||||||
|
|
|
|
|
|
|
|||||||
| Net decrease in net assets from distributions to stockholders |
(17,672 | ) | (17,690 | ) | (26,570 | ) | ||||||
|
|
|
|
|
|
|
|||||||
| Capital share transactions: |
||||||||||||
| Shelf offering costs |
— | (28 | ) | (41 | ) | |||||||
| Repayment of principal on employee notes |
3,246 | 1,400 | 6 | |||||||||
| Conversion of former employee stock option loans from recourse to non-recourse |
— | (420 | ) | — | ||||||||
| Reclassification of principal on employee note |
— | 514 | 150 | |||||||||
|
|
|
|
|
|
|
|||||||
| Net increase in net assets from capital share transactions |
3,246 | 1,466 | 115 | |||||||||
|
|
|
|
|
|
|
|||||||
| Total (decrease) increase in net assets |
(35,525 | ) | 170 | (22,672 | ) | |||||||
| Net assets at beginning of year |
249,246 | 249,076 | 271,748 | |||||||||
|
|
|
|
|
|
|
|||||||
| Net assets at end of year |
$ | 213,721 | $ | 249,246 | $ | 249,076 | ||||||
|
|
|
|
|
|
|
|||||||
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL STATEMENTS.
F-6
Table of Contents
CONSOLIDATED STATEMENTS OF CASH FLOWS
(DOLLAR AMOUNTS IN THOUSANDS)
| Year ended September 30, | ||||||||||||
| 2011 | 2010 | 2009 | ||||||||||
| CASH FLOWS FROM OPERATING ACTIVITIES |
||||||||||||
| Net (decrease) increase in net assets resulting from operations |
$ | (21,099 | ) | $ | 16,394 | $ | 3,783 | |||||
| Adjustments to reconcile net (decrease) increase in net assets resulting from operations to net cash (used in) provided by operating activities: |
||||||||||||
| Purchase of investments |
(136,254 | ) | (22,530 | ) | (24,911 | ) | ||||||
| Principal repayments on investments |
45,835 | 82,515 | 47,490 | |||||||||
| Proceeds from sale of investments |
4,167 | 3,119 | 49,203 | |||||||||
| Repayment of paid in kind interest |
— | 51 | — | |||||||||
| Increase in investment balance due to paid in kind interest |
(12 | ) | (67 | ) | (166 | ) | ||||||
| Increase in investment balance due to transferred interest |
(204 | ) | (1,230 | ) | (1,455 | ) | ||||||
| Net change in premiums, discounts and amortization |
1,467 | 711 | (95 | ) | ||||||||
| (Decrease) increase in loan impairment treated as contra-investment |
(715 | ) | 715 | — | ||||||||
| Net realized loss on investments |
1,119 | 2,893 | 26,411 | |||||||||
| Net unrealized depreciation (appreciation) on investments |
38,759 | (2,317 | ) | (9,513 | ) | |||||||
| Realized loss on settlement of derivative |
— | — | 304 | |||||||||
| Net unrealized appreciation on derivative |
— | — | (304 | ) | ||||||||
| Net unrealized (depreciation) appreciation on borrowings |
(528 | ) | 789 | 350 | ||||||||
| Amortization of deferred financing fees |
1,420 | 1,490 | 2,778 | |||||||||
| Change in compensation expense from non-recourse notes |
— | 245 | — | |||||||||
| (Increase) decrease in interest receivable |
(314 | ) | 382 | 546 | ||||||||
| (Increase) decrease in funds due from custodian |
(2,292 | ) | 2,804 | 1,485 | ||||||||
| Increase in prepaid assets |
(196 | ) | (459 | ) | (35 | ) | ||||||
| (Increase) decrease in other assets |
(83 | ) | 1,304 | (914 | ) | |||||||
| (Decrease) increase in accounts payable and accrued expenses |
(239 | ) | (375 | ) | 539 | |||||||
| (Decrease) increase in interest payable |
(404 | ) | 315 | (268 | ) | |||||||
| Increase (decrease) in fees due to Adviser (A) |
1,087 | (161 | ) | 377 | ||||||||
| (Decrease) increase in fee due to Administrator (A) |
(73 | ) | 51 | (31 | ) | |||||||
| Increase (decrease) in other liabilities |
187 | (138 | ) | (53 | ) | |||||||
|
|
|
|
|
|
|
|||||||
| Net cash (used in) provided by operating activities |
(68,372 | ) | 86,501 | 95,521 | ||||||||
|
|
|
|
|
|
|
|||||||
| CASH FLOWS FROM FINANCING ACTIVITIES |
||||||||||||
| Shelf offering costs |
— | (28 | ) | (41 | ) | |||||||
| Borrowings |
120,100 | 24,900 | 48,800 | |||||||||
| Repayments |
(37,500 | ) | (91,100 | ) | (116,830 | ) | ||||||
| Distributions paid |
(17,672 | ) | (17,690 | ) | (26,570 | ) | ||||||
| Receipt of principal on notes receivable – employees (A) |
3,246 | 1,400 | 6 | |||||||||
| Deferred financing fees |
(804 | ) | (1,525 | ) | (2,103 | ) | ||||||
|
|
|
|
|
|
|
|||||||
| Net cash provided by (used in) financing activities |
67,370 | (84,043 | ) | (96,738 | ) | |||||||
|
|
|
|
|
|
|
|||||||
| NET (DECREASE) INCREASE IN CASH |
(1,002 | ) | 2,458 | (1,217 | ) | |||||||
| CASH, BEGINNING OF YEAR |
7,734 | 5,276 | 6,493 | |||||||||
|
|
|
|
|
|
|
|||||||
| CASH, END OF YEAR |
$ | 6,732 | $ | 7,734 | $ | 5,276 | ||||||
|
|
|
|
|
|
|
|||||||
| CASH PAID DURING PERIOD FOR INTEREST |
$ | 3,080 | $ | 4,075 | $ | 8,278 | ||||||
| NON-CASH FINANCING ACTIVITIES |
||||||||||||
| Reclassification of principal on employee note (A) |
$ | — | $ | 515 | $ | 150 | ||||||
| Cancellation of employee note receivable (A) |
— | 420 | — | |||||||||
| (A) | Refer to Note 4—Related Party Transactions for additional information. |
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL STATEMENTS.
F-7
Table of Contents
CONSOLIDATED SCHEDULE OF INVESTMENTS
SEPTEMBER 30, 2011
(DOLLAR AMOUNTS IN THOUSANDS)
| Company(A) |
Industry |
Investment(B) |
Principal | Cost | Fair Value | |||||||||||
| NON-CONTROL/NON-AFFILIATE INVESTMENTS |
|
|||||||||||||||
| Non-syndicated Loans: |
||||||||||||||||
| Access Television Network, Inc. |
Service-cable airtime (infomercials) | Senior Term Debt (14.0%, Due 2/2011) (D) (H) |
$ | 903 | $ | 903 | $ | 45 | ||||||||
| Allison Publications, LLC |
Service-publisher of consumer oriented magazines | Senior Term Debt (10.5%, Due 9/2012) (D) |
8,463 | 8,478 | 7,861 | |||||||||||
| BAS Broadcasting |
Service-radio station operator | Senior Term Debt (11.5%, Due 7/2013) (D) |
7,465 | 7,465 | 6,233 | |||||||||||
| Chinese Yellow Pages Company |
Service-publisher of Chinese language directories | Line of Credit, $250 available (7.3%, Due 11/2011) (D) |
450 | 450 | 338 | |||||||||||
| Senior Term Debt (7.3%, Due 11/2011) (D) |
168 | 168 | 126 | |||||||||||||
| CMI Acquisition, LLC |
Service-recycling | Senior Subordinated Term Debt (13.0%, Due 12/2016) (D) |
14,265 | 14,265 | 14,336 | |||||||||||
| FedCap Partners, LLC |
Private equity fund | Class A Membership Units (80 units) (G) |
1,200 | 1,153 | ||||||||||||
| Uncalled Capital Commitment ($800) |
||||||||||||||||
| GFRC Holdings, LLC |
Manufacturing-glass-fiber reinforced directories | Senior Term Debt (11.5%, Due 12/2012) (D) |
5,617 | 5,617 | 4,719 | |||||||||||
| Senior Subordinated Term Debt (14.0%, Due 12/2012) (C) (D) |
6,615 | 6,615 | 5,557 | |||||||||||||
| Global Materials Technologies, Inc. |
Manufacturing-steel wool products and metal fibers | Senior Term Debt (13.0%, Due 6/2012) (C) (D) |
2,635 | 2,635 | 2,212 | |||||||||||
| Heartland Communications Group |
Service-radio station operator | Line of Credit, $0 available (5.0%, Due 3/2013) (D) |
100 | 100 | 41 | |||||||||||
| Line of Credit, $0 available (10.0%, Due 3/2013) (D) |
100 | 100 | 41 | |||||||||||||
| Senior Term Debt (5.0%, Due 3/2013) (D) |
4,342 | 4,316 | 1,780 | |||||||||||||
| Common Stock Warrants (8.8% ownership) (F) (G) |
66 | — | ||||||||||||||
| International Junior Golf Training Acquisition Company |
Service-golf training | Line of Credit, $0 available (11.0%, Due 5/2012) (D) |
1,500 | 1,500 | 1,275 | |||||||||||
| Senior Term Debt (10.5%, Due 5/2012) (D) |
861 | 861 | 732 | |||||||||||||
| Senior Term Debt (12.5%, Due 5/2012) (C)(D) |
2,500 | 2,500 | 2,125 | |||||||||||||
F-8
Table of Contents
GLADSTONE CAPITAL CORPORATION
CONSOLIDATED SCHEDULE OF INVESTMENTS (Continued)
AS OF SEPTEMBER 30, 2011
(DOLLAR AMOUNTS IN THOUSANDS)
| Company(A) |
Industry |
Investment(B) |
Principal | Cost | Fair Value | |||||||||||
| KMBQ Corporation (I) |
Service-AM/FM radio broadcaster | Line of Credit, $42 available (12.3%, Due 7/2010) (D) (H) |
$ | 162 | $ | 158 | $ | 76 | ||||||||
| Senior Term Debt (12.3%, Due 7/2010) (D) (H) |
2,081 | 2,038 | 984 | |||||||||||||
| Legend Communications of Wyoming, LLC |
Service-operator of radio stations | Senior Term Debt (12.0%, Due 6/2013) (D) |
9,745 | 9,745 | 5,408 | |||||||||||
| Senior Term Debt (16.0%, Due 7/2011) (D) |
220 | 220 | 123 | |||||||||||||
| Newhall Holdings, Inc. |
Service-distributor of personal care products and supplements | Line of Credit, $0 available (8.0%, Due 12/2012) (D) (H) |
1,985 | 1,985 | 98 | |||||||||||
| Senior Term Debt (8.5%, Due 12/2012) (D) (H) |
1,870 | 1,870 | 94 | |||||||||||||
| Senior Term Debt (3.5%, Due 12/2012) (C) (D) (H) |
2,000 | 2,000 | 100 | |||||||||||||
| Senior Term Debt (3.5%, Due 12/2012) (C) (D) (H) |
4,648 | 4,648 | 232 | |||||||||||||
| Preferred Equity (1,000,000 shares) (F) (G) (H) |
— | — | ||||||||||||||
| Common Stock (688,500 shares) (F) (G) |
— | — | ||||||||||||||
| North American Aircraft Services LLC |
Service - repairs and maintains aircraft fuel tanks and fuel systems | Line of Credit, $1,500 available (6.5%, Due 8/2012) (D) |
500 | 500 | 500 | |||||||||||
| Senior Term Debt (7.5%, Due 8/2016) (D) |
3,250 | 3,250 | 3,250 | |||||||||||||
| Senior Subordinated Term Debt (11.8%, Due 8/2016) (D) |
4,750 | 4,750 | 4,750 | |||||||||||||
| Common Stock Warrants (4.8% ownership) (F) (G) |
350 | 350 | ||||||||||||||
| Northern Contours, Inc. |
Manufacturing-veneer and laminate components | Senior Subordinated Term Debt (13.0%, Due 9/2012) (D) |
6,128 | 6,128 | 5,684 | |||||||||||
| Northstar Broadband, LLC |
Service-cable TV franchise owner | Senior Term Debt (0.7%, Due 12/2012) (D) |
80 | 70 | 64 | |||||||||||
| Precision Acquisition Group Holdings, Inc. |
Manufacturing-consumable components for the Aluminum industry |
Equipment Note (13.0%, Due 11/2011) (D) |
1,000 | 1,000 | 948 | |||||||||||
| Senior Term Debt (13.0%, Due 11/2011) (D) |
4,125 | 4,125 | 3,908 | |||||||||||||
| Senior Term Debt (13.0%, Due 11/2011) (C) (D) |
4,053 | 4,053 | 3,840 | |||||||||||||
| PROFIT Systems Acquisition Co. |
Service-design and develop ERP software | Line of Credit, $350 available (11.3%, Due 7/2012) (D) |
— | — | — | |||||||||||
| Senior Term Debt (10.5%, Due 7/2014) (C) (D) |
3,150 | 3,150 | 3,024 | |||||||||||||
F-9
Table of Contents
GLADSTONE CAPITAL CORPORATION
CONSOLIDATED SCHEDULE OF INVESTMENTS (Continued)
AS OF SEPTEMBER 30, 2011
(DOLLAR AMOUNTS IN THOUSANDS)
| Company(A) |
Industry |
Investment(B) |
Principal | Cost | Fair Value | |||||||||||
| RCS Management Holding Co. |
Service-healthcare supplies | Senior Term Debt (9.5%, Due 1/2013) (D) |
$ | 1,438 | $ | 1,438 | $ | 1,367 | ||||||||
| Senior Term Debt (11.5%, Due 1/2013) (C) (D) |
3,060 | 3,060 | 2,907 | |||||||||||||
| Reliable Biopharmaceutical Holdings, Inc. |
Manufacturing-pharmaceutical and biochemical intermediates | Line of Credit, $2,800 available (9.0%, Due 1/2013) (D) |
1,200 | 1,200 | 1,176 | |||||||||||
| Mortgage Note (9.5%, Due 12/2014) (D) |
7,168 | 7,168 | 7,025 | |||||||||||||
| Senior Term Debt (12.0%, Due 12/2014) (C)(D) |
11,573 | 11,573 | 10,906 | |||||||||||||
| Senior Subordinated Term Debt (12.5%, Due 12/2014) (D) |
6,000 | 6,000 | 5,655 | |||||||||||||
| Common Stock Warrants (764 shares) (F) (G) |
209 | 534 | ||||||||||||||
| Saunders & Associates |
Manufacturing-equipment provider for frequency control devices | Line of Credit, $2,500 available (11.3%, Due 5/2013) (D) |
— | — | — | |||||||||||
| Senior Term Debt (11.3%, Due 5/2013) (D) |
8,947 | 8,947 | 8,913 | |||||||||||||
| Sunburst Media - Louisiana, LLC |
Service-radio station operator | Senior Term Debt (10.5%, Due 12/2011) (D) |
6,100 | 6,103 | 3,964 | |||||||||||
| Thibaut Acquisition Co. |
Service-design and distribute wall covering | Line of Credit, $400 available (9.0%, Due 1/2014) (D) |
600 | 600 | 585 | |||||||||||
| Senior Term Debt (8.5%, Due 1/2014) (D) |
550 | 550 | 536 | |||||||||||||
| Senior Term Debt (12.0%, Due 1/2014) (C) (D) |
3,000 | 3,000 | 2,910 | |||||||||||||
| Westlake Hardware, Inc. |
Retail-hardware and variety | Senior Subordinated Term Debt (12.3%, Due 1/2014) (D) |
12,000 | 12,000 | 11,640 | |||||||||||
| Senior Subordinated Term Debt (13.5%, Due 1/2014) (D) |
8,000 | 8,000 | 7,700 | |||||||||||||
| Westland Technologies, Inc. |
Service-diversified conglomerate | Line of Credit, $1,000 available (6.5%, Due 4/2012) (D) |
— | — | — | |||||||||||
| Senior Term Debt (7.5%, Due 4/2016) (D) |
2,000 | 2,000 | 1,995 | |||||||||||||
| Senior Term Debt (12.5%, Due 4/2016) (D) |
4,000 | 4,000 | 3,990 | |||||||||||||
| Common Stock Warrants (77,287 shares) (F) (G) |
350 | 307 | ||||||||||||||
F-10
Table of Contents
GLADSTONE CAPITAL CORPORATION
CONSOLIDATED SCHEDULE OF INVESTMENTS (Continued)
AS OF SEPTEMBER 30, 2011
(DOLLAR AMOUNTS IN THOUSANDS)
| Company(A) |
Industry |
Investment(B) |
Principal | Cost | Fair Value | |||||||||||
| Winchester Electronics |
Manufacturing-high bandwidth connectors and cables | Senior Term Debt (5.2%, Due 5/2012) (D) |
$ | 1,250 | $ | 1,250 | $ | 1,238 | ||||||||
| Senior Term Debt (5.7%, Due 5/2013) (D) |
1,677 | 1,677 | 1,656 | |||||||||||||
| Senior Subordinated Term Debt (14.0%, Due 6/2013) (D) |
9,800 | 9,800 | 9,628 | |||||||||||||
|
|
|
|
|
|||||||||||||
| Subtotal – Non-syndicated loans | $ | 196,204 | $ | 166,639 | ||||||||||||
|
|
|
|
|
|||||||||||||
| Syndicated Loans: |
||||||||||||||||
| Airvana Network Solutions, Inc. |
Service-telecommunications | Senior Term Debt (10.0%, Due 3/2015) (E) |
$ | 6,048 | $ | 5,912 | $ | 6,048 | ||||||||
| Allied Security Holdings, LLC |
Service-contract security officer providers | Senior Subordinated Term Debt (8.5%, Due 2/2018) (E) |
1,000 | 991 | 965 | |||||||||||
| Allied Specialty Vehicles, Inc. |
Manufacturing-specialty vehicles | Senior Term Debt (9.5%, Due 2/2016) (E) |
9,950 | 9,767 | 9,751 | |||||||||||
| Ameriqual Group, LLC |
Manufacturing-production and distribution of food products | Senior Term Debt (9.0%, Due 3/2016) (E) |
7,481 | 7,344 | 7,332 | |||||||||||
| Applied Systems, Inc. |
Software for property & casualty insurance industry | Senior Subordinated Term Debt (9.3%, Due 6/2017) (E) |
1,000 | 991 | 990 | |||||||||||
| Ascend Learning, LLC |
Service-technology-based learning solutions | Senior Subordinated Term Debt (11.5%, Due 12/2017) (E) |
1,000 | 972 | 980 | |||||||||||
| Attachmate Corporate |
Service-develops, implements and supports software | Senior Subordinated Term Debt (9.5%, Due 2/2017) (E) |
4,000 | 3,962 | 3,810 | |||||||||||
| Autoparts Holdings Limited |
Supplier to the light and heavy-duty vehicle after market for replacement parts | Senior Term Debt (10.5%, Due 1/2018) (E) |
1,000 | 995 | 978 | |||||||||||
| Covad Communications Group, Inc. |
Service-telecommunications | Senior Term Debt (12.0%, Due 11/2015) (E) |
1,850 | 1,818 | 1,795 | |||||||||||
| Ernest Health, Inc. |
Service-post-acute care services | Senior Term Debt (10.3%, Due 5/2017) (E) |
2,000 | 1,971 | 1,930 | |||||||||||
| Global Brass and Copper, Inc. |
Manufacturing - steel wool products and metal fibers | Senior Term Debt (10.3%, Due 8/2015) (E) |
2,969 | 2,893 | 3,054 | |||||||||||
| HGI Holding, Inc |
Service - distributor of disposable medical products | Senior Term Debt (6.8%, Due 10/2016) (E) |
1,757 | 1,723 | 1,687 | |||||||||||
F-11
Table of Contents
GLADSTONE CAPITAL CORPORATION
CONSOLIDATED SCHEDULE OF INVESTMENTS (Continued)
AS OF SEPTEMBER 30, 2011
(DOLLAR AMOUNTS IN THOUSANDS)
| Company(A) |
Industry |
Investment(B) |
Principal | Cost | Fair Value | |||||||||||
| Hubbard Radio, LLC |
Service-radio station operator | Senior Subordinated Term Debt (8.8%, Due 4/2018) (E) |
$ | 500 | $ | 495 | $ | 488 | ||||||||
| Keypoint Government Solutions, Inc. |
Service-security consulting services | Senior Term Debt (10.0%, Due 12/2015) (E) |
6,948 | 6,916 | 6,670 | |||||||||||
| Mood Media Corporation |
Service-media and marketing solutions | Senior Term Debt (10.3%, Due 11/2018) (E) |
8,000 | 7,923 | 7,370 | |||||||||||
| National Surgical Hospitals, Inc. |
Service-physician-partnered surgical facilities | Senior Term Debt (8.3%, Due 2/2017) (E) |
1,694 | 1,658 | 1,627 | |||||||||||
| Sensus USA, Inc. |
Service-provider of utility communication services | Senior Term Debt (8.5%, Due 5/2018) (E) |
500 | 495 | 483 | |||||||||||
| Springs Window Fashions, LLC |
Manufacturing-window coverings | Senior Term Debt (11.3%, Due 11/2017) (E) |
5,000 | 4,855 | 4,750 | |||||||||||
| SRAM, LLC |
Manufacturing-premium bicycle components | Senior Term Debt (8.5%, Due 12/2018) (E) |
2,500 | 2,476 | 2,475 | |||||||||||
| Targus Group International, Inc. |
Manufacturing-carrying cases and accessories for notebook computers | Senior Term Debt (11.0%, Due 5/2016) (E) |
9,975 | 9,785 | 9,626 | |||||||||||
| Ulterra Drilling Technologies, LP |
Manufacturing-oil field drill bits and slick-slip reduction tools | Senior Term Debt (9.5%, Due 6/2016) (E) |
1,975 | 1,937 | 1,916 | |||||||||||
| Vision Solutions, Inc. |
Service-provider of information availability software | Senior Term Debt (9.5%, Due 7/2017) (E) |
11,000 | 10,915 | 10,560 | |||||||||||
| Wall Street Systems Holdings, Inc. |
Service-software provider | Senior Term Debt (9.0%, Due 6/2018) (E) |
3,000 | 2,971 | 2,880 | |||||||||||
| WP Evenflo Group Holdings Inc. |
Manufacturing-infant and juvenile products | Senior Term Debt (8.0%, Due 2/2013) (E) |
1,853 | 1,853 | 1,723 | |||||||||||
| Senior Preferred Equity (333.3 shares) (F) (G) |
333 | 419 | ||||||||||||||
| Junior Preferred Equity (111.1 shares) (F) (G) |
111 | 146 | ||||||||||||||
| Common Stock (1,874 shares) (F) (G) |
— | 210 | ||||||||||||||
|
|
|
|
|
|||||||||||||
| Subtotal - Syndicated loans | $ | 92,062 | $ | 90,663 | ||||||||||||
|
|
|
|
|
|||||||||||||
| Total Non-Control/Non-Affiliate Investments (represented 84.9% of total investments at fair value) |
|
$ | 288,266 | $ | 257,302 | |||||||||||
|
|
|
|
|
|||||||||||||
F-12
Table of Contents
GLADSTONE CAPITAL CORPORATION
CONSOLIDATED SCHEDULE OF INVESTMENTS (Continued)
AS OF SEPTEMBER 30, 2011
(DOLLAR AMOUNTS IN THOUSANDS)
| Company(A) |
Industry |
Investment(B) |
Principal | Cost | Fair Value | |||||||||||
| CONTROL INVESTMENTS |
||||||||||||||||
| BERTL, Inc. |
Service-web-based evaluator of imaging products | Line of Credit, $6 available (6.4%, Due 10/2011)(F) (H) |
$ | 1,427 | $ | 1,355 | $ | — | ||||||||
| Common Stock (100 shares) (F) (G) |
424 | — | ||||||||||||||
| Defiance Integrated Technologies, Inc. |
Manufacturing-trucking parts | Senior Term Debt (11.0%, Due 4/2013) (C) (F) |
7,505 | 7,505 | 7,505 | |||||||||||
| Common Stock (15,500 shares) (F) (G) |
1 | 7,534 | ||||||||||||||
| Kansas Cable Holdings, Inc. (J) |
Service - cable, internet, voice provider | Line of Credit, $179 available (10.0%, Due 10/2012) (H) |
346 | 337 | 14 | |||||||||||
| Senior Term Debt (10.0%, Due 10/2012) (F) (H) |
1,500 | 1,444 | 60 | |||||||||||||
| Senior Term Debt (10.0%, Due 10/2012) (F) (H) |
1,039 | 1,000 | 42 | |||||||||||||
| Common Stock (100 shares) (F) (G) |
— | — | ||||||||||||||
| Lindmark Acquisition, LLC |
Service-advertising | Senior Subordinated Term Debt (11.0%, Due 10/2012) (D) (H) |
10,000 | 10,000 | 2,000 | |||||||||||
| Senior Subordinated Term Debt (13.0%, Due 10/2012) (D) (H) |
2,000 | 2,000 | 400 | |||||||||||||
| Senior Subordinated Term Debt (13.0%, Due Upon Demand) (D) (H) |
1,908 | 1,908 | 383 | |||||||||||||
| Common Stock (100 shares) (F) (G) |
317 | — | ||||||||||||||
| LocalTel, LLC (K) |
Service-yellow pages publishing | Line of credit, $2 available (10.0%, Due 12/2011) (F) (H) |
1,848 | 1,848 | 734 | |||||||||||
| Line of Credit, $1,830 available (4.7%, Due 6/2012) (F) (H) |
1,170 | 1,170 | — | |||||||||||||
| Senior Term Debt (12.5%, Due 2/2012) (F) (H) |
325 | 325 | — | |||||||||||||
| Senior Term Debt (8.5%, Due 6/2012) (F) (H) |
2,688 | 2,688 | — | |||||||||||||
| Senior Term Debt (10.5%, Due 6/2012) (C) (F) (H) |
2,750 | 2,750 | — | |||||||||||||
| Common Stock Warrants (4,000 shares) (F) (G) |
— | — | ||||||||||||||
F-13
Table of Contents
GLADSTONE CAPITAL CORPORATION
CONSOLIDATED SCHEDULE OF INVESTMENTS (Continued)
AS OF SEPTEMBER 30, 2011
(DOLLAR AMOUNTS IN THOUSANDS)
| Company(A) |
Industry |
Investment(B) |
Principal | Cost | Fair Value | |||||||||||
| Midwest Metal Distribution, Inc. |
Distribution-aluminum sheets and stainless steel | Senior Subordinated Term Debt (12.0%, Due 7/2013) (D) |
$ | 18,281 | $ | 18,262 | $ | 17,184 | ||||||||
| Common Stock (501 shares) (F) (G) |
138 | — | ||||||||||||||
| Sunshine Media Holdings(L) |
Service-publisher regional B2B trade magazines | Line of credit, $1,100 available (10.5%, Due 8/2014) (D) |
900 | 900 | 270 | |||||||||||
| Senior Term Debt (10.5%, Due 5/2016) (D) |
16,948 | 16,948 | 5,084 | |||||||||||||
| Senior Term Debt (5.0%, Due 5/2016) (C) (D) |
10,700 | 10,700 | 3,210 | |||||||||||||
| Junior Preferred Equity (6,689 shares) (F) (G) |
2,475 | — | ||||||||||||||
| Common Stock (934 shares) (F) (G) |
740 | — | ||||||||||||||
| U.S. Healthcare Communications, Inc. |
Service-magazine publisher/operator | Line of credit, $131 available (6.0%, Due 12/2010) (F) (H) |
269 | 269 | — | |||||||||||
| Line of credit, $0 available (6.0%, Due 12/2010) (F) (H) |
450 | 450 | — | |||||||||||||
| Common Stock (100 shares) (F) (G) |
2,470 | — | ||||||||||||||
| Viapack, Inc. (M) |
Manufacturing-polyethylene film | Line of Credit, $900 available (10.0%, Due 3/2013) (D) |
1,600 | 1,600 | 320 | |||||||||||
| Senior Real Estate Term Debt (10.0%, Due 3/2014) (D) |
600 | 600 | 120 | |||||||||||||
| Senior Term Debt (13.0%, Due 3/2014) (C) (D) |
3,925 | 3,925 | 785 | |||||||||||||
| Preferred Equity (100 shares) (F) (G) |
— | — | ||||||||||||||
| Total Control Investments (represented 15.1% of total investments at fair value) |
|
$ | 94,549 | $ | 45,645 | |||||||||||
|
|
|
|
|
|||||||||||||
| Total Investments (N) |
$ | 382,815 | $ | 302,947 | ||||||||||||
|
|
|
|
|
|||||||||||||
| (A) | Certain of the securities listed in the above chart are issued by affiliate(s) of the indicated portfolio company. |
| (B) | Percentage represents interest rates in effect at September 30, 2011, and due date represents the contractual maturity date. |
| (C) | Last Out Tranche (“LOT”) of senior debt, meaning if the portfolio company is liquidated, the holder of the LOT is paid after the senior debt. |
| (D) | Fair value was primarily based on opinions of value submitted by Standard & Poor’s Securities Evaluations, Inc. |
| (E) | Security valued based on the indicative bid price on or near September 30, 2011, offered by the respective syndication agent’s trading desk or secondary desk. |
F-14
Table of Contents
GLADSTONE CAPITAL CORPORATION
CONSOLIDATED SCHEDULE OF INVESTMENTS (Continued)
AS OF SEPTEMBER 30, 2011
(DOLLAR AMOUNTS IN THOUSANDS)
| (F) | Fair value was primarily based on the total enterprise value of the portfolio company using a liquidity waterfall approach. The Company also considered discounted cash flow methodologies. |
| (G) | Security is non-income producing. |
| (H) | Debt security is on non-accrual status. |
| (I) | In November 2011, the Company invested $1.6 million in Ohana Media Group (“Ohana”) in order for it to purchase certain of KMBQ Corporation’s (“KMBQ”) assets out of receivership. In connection with this transaction, the Company recorded a partial realized loss in the quarter ending December 31, 2011. Ohana replaces KMBQ on the Company’s Schedule of Investments as a Non-Control/Non-Affiliate portfolio Company in the quarter ending December 31, 2011. |
| (J) | In August 2011, the Company restructured its loan to SCI Cable, Inc. (“SCI”) through a UCC Article 9 sale, resulting in a new control entity, Kansas Cable Holdings, Inc., obtaining certain of the assets of SCI. This resulted in a realized loss of $1.3 million. Kansas Cable Holdings, Inc. replaces SCI on the accompanying Schedule of Investments and remains on non-accrual status as of the date of this filing. |
| (K) | Subsequent to September 30, 2011, the Company entered into an allonge to its revolving promissory note with LocalTel, LLC whereby the maximum principal amount was increased by $0.5 million and the maturity date was changed from December 31, 2011 to June 15, 2012. |
| (L) | In January 2011, the Company purchased common stock for $1.5 million from existing shareholders of Sunshine Media Holdings, which resulted in the Company attaining a controlling interest. This purchase resulted in reclassifying the investment from Non-Control/Non-Affiliate to Control during the quarter ended March 31, 2011. Additionally, the Company has extended $1.3 million through revolver draws since January 2011 to Sunshine Media Holdings through September 30, 2011. |
| (M) | In July 2011, the Company increased its investment in Viapack, Inc., by adding a line of credit facility and also purchasing preferred equity in Viapack, Inc.; thereby giving the Company a controlling interest. This purchase resulted in reclassifying the investment from Non-Control/Non-Affiliate to Control during the quarter ended September 30, 2011. |
| (N) | Cumulative gross unrealized depreciation for federal income tax purposes is $88,670; cumulative gross unrealized appreciation for federal income tax purposes is $8,566. Cumulative net unrealized depreciation is $80,104 based on a tax cost of $383,052. |
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL STATEMENTS.
F-15
Table of Contents
GLADSTONE CAPITAL CORPORATION
CONSOLIDATED SCHEDULE OF INVESTMENTS
SEPTEMBER 30, 2010
(DOLLAR AMOUNTS IN THOUSANDS)
| Company(A) |
Industry |
Investment(B) |
Principal | Cost | Fair Value | |||||||||||
| NON-CONTROL/NON-AFFILIATE INVESTMENTS | ||||||||||||||||
| Non-syndicated Loans: |
||||||||||||||||
| Access Television Network, Inc. |
Service-cable airtime (infomercials) |
Senior Term Debt (14.0%, Due 12/2011) (E) |
$ | 963 | $ | 963 | $ | 809 | ||||||||
| Allison Publications, LLC |
Service-publisher of consumer oriented magazines |
Senior Term Debt (10.5%, Due 9/2012) (E) |
9,064 | 9,094 | 8,543 | |||||||||||
| Senior Term Debt (13.0%, Due 12/2010) (E) |
65 | 65 | 64 | |||||||||||||
| BAS Broadcasting |
Service-radio station operator |
Senior Term Debt (11.5%, Due 7/2013) (E) |
7,465 | 7,465 | 6,644 | |||||||||||
| Chinese Yellow Pages Company |
Service-publisher of Chinese language directories |
Line of Credit, $250 available (7.3%, Due 11/2010) (E) |
450 | 450 | 428 | |||||||||||
| Senior Term Debt (7.3%, Due 11/2010) (E) |
333 | 333 | 317 | |||||||||||||
| CMI Acquisition, LLC |
Service-recycling |
Senior Subordinated Term Debt (10.3%, |
5,972 | 5,972 | 5,868 | |||||||||||
| FedCap Partners, LLC |
Private equity fund |
Class A Membership Units (H) (80 units) |
— | 400 | 400 | |||||||||||
| Uncalled Capital Commitment ($1,600) |
||||||||||||||||
| Finn Corporation |
Manufacturing-landscape equipment |
Common Stock Warrants (33,000 shares) (G)(H) |
37 | 284 | ||||||||||||
| GFRC Holdings LLC |
Manufacturing-glass-fiber reinforced concrete |
Senior Term Debt (11.5%, Due 12/2012) (E) |
6,111 | 6,111 | 6,004 | |||||||||||
| Senior Subordinated Term Debt (14.0%, Due 12/2012) (C) (E) |
6,632 | 6,632 | 6,450 | |||||||||||||
| Global Materials Technologies, Inc. |
Manufacturing-steel wool products and metal fibers |
Senior Term Debt (13.0%, Due 6/2012) (C) (E) |
3,560 | 3,560 | 2,937 | |||||||||||
| Heartland Communications Group |
Service-radio station operator |
Line of Credit, $100 available (8.5%, Due 3/2013) |
— | — | — | |||||||||||
| Line of Credit, $100 available (8.5%, Due 3/2013) |
— | — | — | |||||||||||||
| Senior Term Debt (8.5%, Due 3/2013) (E) |
4,342 | 4,301 | 2,519 | |||||||||||||
| Common Stock Warrants (8.75%) (G) (H) |
66 | — | ||||||||||||||
F-16
Table of Contents
GLADSTONE CAPITAL CORPORATION
CONSOLIDATED SCHEDULE OF INVESTMENTS
SEPTEMBER 30, 2010
(DOLLAR AMOUNTS IN THOUSANDS)
| Company(A) |
Industry |
Investment(B) |
Principal | Cost | Fair Value | |||||||||||
| Interfilm Holdings, Inc. |
Service-slitter and distributor of plastic films | Senior Term Debt (12.3%, Due 10/2012) (E) |
$ | 2,400 | $ | 2,400 | $ | 2,382 | ||||||||
| International Junior Golf Training Acquisition Company |
Service-golf training | Line of Credit, $1,500 available (9.0%, Due 5/2011) (E) |
— | — | — | |||||||||||
| Senior Term Debt (8.5%, Due 5/2012) (E) |
1,557 | 1,557 | 1,537 | |||||||||||||
| Senior Term Debt (10.5%, Due 5/2012) (C) (E) |
2,500 | 2,500 | 2,456 | |||||||||||||
| KMBQ Corporation |
Service-AM/FM radio broadcaster | Line of Credit, $39 available (12.3%, Due 7/2010) (E) (I) |
161 | 161 | 16 | |||||||||||
| Senior Term Debt (12.3%, Due 7/2010) (E) (I) |
1,921 | 1,921 | 192 | |||||||||||||
| Legend Communications of Wyoming LLC |
Service-operator of radio stations | Senior Term Debt (12.0%, Due 6/2013) (E) |
9,880 | 9,880 | 6,422 | |||||||||||
| Newhall Holdings, Inc. |
Service-distributor of personal care products and supplements | Line of Credit, $0 available (5.0%, Due 12/2012) (E) |
1,350 | 1,350 | 1,269 | |||||||||||
| Senior Term Debt (5.0%, Due 12/2012) (E) |
3,870 | 3,870 | 3,638 | |||||||||||||
| Senior Term Debt (5.0%, Due 12/2012) (C) (E) |
4,648 | 4,648 | 4,323 | |||||||||||||
| Preferred Equity (1,000,000 shares) (G) (H) |
— | — | ||||||||||||||
| Common Stock (688,500 shares) (G) (H) |
— | — | ||||||||||||||
| Northern Contours, Inc. |
Manufacturing-veneer and laminate components | Senior Subordinated Term Debt (13.0%, Due 9/2012) (E) |
6,301 | 6,301 | 5,765 | |||||||||||
| Northstar Broadband, LLC |
Service-cable TV franchise owner | Senior Term Debt (0.7%, Due 12/2012) (E) |
135 | 117 | 102 | |||||||||||
| Pinnacle Treatment Centers, Inc. |
Service-Addiction treatment centers | Line of Credit, $350 available (12.0%, Due 10/2010) (E) |
150 | 150 | 150 | |||||||||||
| Senior Term Debt (10.5%, Due 12/2011) (E) |
1,950 | 1,950 | 1,945 | |||||||||||||
| Senior Term Debt (10.5%, Due 12/2011) (C) (E) |
7,500 | 7,500 | 7,481 | |||||||||||||
| Precision Acquisition Group Holdings, Inc. |
Manufacturing-consumable components for the Aluminum industry | Equipment Note (13.0%, Due 10/2010) (E) |
1,000 | 1,000 | 950 | |||||||||||
| Senior Term Debt (13.0%, Due 10/2010) (E) |
4,125 | 4,125 | 3,919 | |||||||||||||
| Senior Term Debt (13.0%, Due 10/2010) (C) (E) |
4,053 | 4,053 | 3,850 | |||||||||||||
F-17
Table of Contents
GLADSTONE CAPITAL CORPORATION
CONSOLIDATED SCHEDULE OF INVESTMENTS
SEPTEMBER 30, 2010
(DOLLAR AMOUNTS IN THOUSANDS)
| Company(A) |
Industry |
Investment(B) |
Principal | Cost | Fair Value | |||||||||||
| PROFITSystems Acquisition Co. |
Service-design and develop ERP software | Line of Credit, $350 available (4.5%, Due 7/2011) |
$ | — | $ | — | $ | — | ||||||||
| Senior Term Debt (8.5%, Due 7/2011) (E) |
1,000 | 1,000 | 940 | |||||||||||||
| Senior Term Debt (10.5%, Due 7/2011) (C) (E) |
2,900 | 2,900 | 2,697 | |||||||||||||
| RCS Management Holding Co. |
Service-healthcare supplies | Senior Term Debt (9.5%, Due 1/2011) (C) (E) |
1,937 | 1,937 | 1,918 | |||||||||||
| Senior Term Debt (11.5%, Due 1/2011) (D) (E) |
3,060 | 3,060 | 3,029 | |||||||||||||
| Reliable Biopharmaceutical Holdings, Inc. |
Manufacturing-pharmaceutical and biochemical intermediates |
Line of Credit, $3,800 available (9.0%, Due 10/2010) (E) |
1,200 | 1,200 | 1,188 | |||||||||||
| Mortgage Note (9.5%, Due 10/2014) (E) |
7,256 | 7,255 | 7,201 | |||||||||||||
| Senior Term Debt (9.0%, Due 10/2012) (E) |
1,080 | 1,080 | 1,069 | |||||||||||||
| Senior Term Debt (11.0%, Due 10/2012) (C) (E) |
11,693 | 11,693 | 11,386 | |||||||||||||
| Senior Subordinated Term Debt (12.0%, Due 10/2013) (E) |
6,000 | 6,000 | 5,730 | |||||||||||||
| Common Stock Warrants (764 shares) (G) (H) |
209 | — | ||||||||||||||
| Saunders & Associates |
Manufacturing-equipment provider for frequency control devices | Senior Term Debt (9.8%, Due 5/2013) (E) |
8,947 | 8,947 | 8,935 | |||||||||||
| SCI Cable, Inc. |
Service-cable, internet, voice provider | Senior Term Debt (10.0%, Due 10/2012) (E) (I) |
1,165 | 450 | 140 | |||||||||||
| Senior Term Debt (10.0%, Due 10/2012) (E) (I) |
2,931 | 2,931 | 352 | |||||||||||||
| Sunburst Media - Louisiana, LLC |
Service-radio station operator | Senior Term Debt (10.5%, Due 6/2011) (E) |
6,375 | 6,391 | 5,100 | |||||||||||
| Sunshine Media Holdings |
Service-publisher regional B2B trade magazines | Line of credit, $401 available (10.5%, Due 2/2011) (E) |
1,599 | 1,599 | 1,499 | |||||||||||
| Senior Term Debt (10.5%, Due 5/2012) (E) |
16,948 | 16,948 | 15,889 | |||||||||||||
| Senior Term Debt (13.3%, Due 5/2012) (C) (E) |
10,700 | 10,700 | 9,898 | |||||||||||||
F-18
Table of Contents
GLADSTONE CAPITAL CORPORATION
CONSOLIDATED SCHEDULE OF INVESTMENTS
SEPTEMBER 30, 2010
(DOLLAR AMOUNTS IN THOUSANDS)
| Company(A) |
Industry |
Investment(B) |
Principal | Cost | Fair Value | |||||||||||
| Thibaut Acquisition Co. |
Service-design and distribute wall covering | Line of Credit, $0 available (9.0%, Due 1/2011) (E) |
$ | 1,000 | $ | 1,000 | $ | 970 | ||||||||
| Senior Term Debt (8.5%, Due 1/2011) (E) |
1,075 | 1,075 | 1,043 | |||||||||||||
| Senior Term Debt (12.0%, Due 1/2011) (C) (E) |
3,000 | 3,000 | 2,888 | |||||||||||||
| Viapack, Inc. |
Manufacturing-polyethylene film | Senior Real Estate Term Debt (10.0%, Due 3/2011) (E) |
675 | 675 | 672 | |||||||||||
| Senior Term Debt (13.0%, Due 3/2011) (C) (E) |
4,005 | 4,005 | 3,990 | |||||||||||||
| Westlake Hardware, Inc. |
Retail-hardware and variety | Senior Subordinated Term Debt (12.3%, Due 1/2014) (E) |
12,000 | 12,000 | 11,820 | |||||||||||
| Senior Subordinated Term Debt (13.5%, Due 1/2014) (E) |
8,000 | 8,000 | 7,800 | |||||||||||||
| Winchester Electronics |
Manufacturing-high bandwidth connectors and cables | Senior Term Debt (5.3%, Due 5/2012) (E) |
1,250 | 1,250 | 1,244 | |||||||||||
| Senior Term Debt (6.0%, Due 5/2013) (E) |
1,686 | 1,686 | 1,661 | |||||||||||||
| Senior Subordinated Term Debt (14.0%, Due 6/2013) (E) |
9,875 | 9,875 | 9,603 | |||||||||||||
|
|
|
|
|
|||||||||||||
| Subtotal - Non-syndicated loans |
$225,798 | $206,326 | ||||||||||||||
|
|
|
|
|
|||||||||||||
| Syndicated Loans: |
||||||||||||||||
| Airvana Network Solutions, Inc |
Service-telecommunications | Senior Term Debt (11.0%, Due 8/2014) (F) |
9,056 | 8,858 | 8,942 | |||||||||||
| Puerto Rico Cable Acquisition Company, Inc. |
Service-telecommunications | Senior Subordinated Term Debt (7.9%, Due 1/2012) (F) |
7,141 | 7,159 | 6,427 | |||||||||||
| WP Evenflo Group Holdings Inc. |
Manufacturing-infant and juvenile products | Senior Term Debt (8.0%, Due 2/2013) (F) |
1,881 | 1,881 | 1,655 | |||||||||||
| Senior Preferred Equity (333.3 shares) (G) (H) |
333 | 379 | ||||||||||||||
| Junior Preferred Equity (111.1 shares) (G) (H) |
111 | 8 | ||||||||||||||
| Common Stock (1,873.95 shares) (G) (H) |
— | — | ||||||||||||||
|
|
|
|
|
|||||||||||||
| Subtotal - Syndicated loans |
$ | 18,342 | $ | 17,411 | ||||||||||||
|
|
|
|
|
|||||||||||||
| Total Non-Control/Non-Affiliate Investments (represented 87% of total investments at fair value) |
|
$ | 244,140 | $ | 223,737 | |||||||||||
|
|
|
|
|
|||||||||||||
F-19
Table of Contents
GLADSTONE CAPITAL CORPORATION
CONSOLIDATED SCHEDULE OF INVESTMENTS
SEPTEMBER 30, 2010
(DOLLAR AMOUNTS IN THOUSANDS)
| Company(A) |
Industry |
Investment(B) |
Principal | Cost | Fair Value | |||||||||||
| CONTROL INVESTMENTS |
||||||||||||||||
| BERTL, Inc. |
Service-web-based evaluator of imaging products | Line of Credit, $345 available (6.5%, Due 10/2010) (G) (I) |
$ | 1,276 | $ | 1,319 | $ | — | ||||||||
| Common Stock (100 shares) (G) (H) |
424 | — | ||||||||||||||
| Defiance Integrated Technologies, Inc. |
Manufacturing-trucking parts | Senior Term Debt (11.0%, Due 4/2013) (C) (E) |
8,325 | 8,325 | 8,325 | |||||||||||
| Common Stock (15,500 shares) (G) (H) |
1 | 1,543 | ||||||||||||||
| Guaranty ($250) |
||||||||||||||||
| Lindmark Acquisition, LLC |
Service-advertising | Senior Subordinated Term Debt (11.0%, Due 10/2012) (E) (I) |
10,000 | 10,000 | 5,000 | |||||||||||
| Senior Subordinated Term Debt (13.0%, Due 12/2010) (E) ((I) |
2,000 | 2,000 | 1,000 | |||||||||||||
| Senior Subordinated Term Debt (13.0%, Due Upon Demand) (E) (I) |
1,794 | 1,794 | 897 | |||||||||||||
| Common Stock (100 shares) (G) (H) |
1 | — | ||||||||||||||
| LocalTel, LLC |
Service-yellow pages publishing | Line of credit, $152 available (10.0%, Due 12/2010) (G) (I) |
1,698 | 1,698 | 1,063 | |||||||||||
| Line of Credit, $1,830 available (4.8%, Due 6/2011) (G) (I) |
1,170 | 1,170 | — | |||||||||||||
| Senior Term Debt (12.5%, Due 2/2012) (G) (I) |
325 | 325 | — | |||||||||||||
| Senior Term Debt (8.5%, Due 6/2011) (G) (I) |
2,688 | 2,688 | — | |||||||||||||
| Senior Term Debt (10.5%, Due 6/2011) (C) (G) (I) |
2,750 | 2,750 | — | |||||||||||||
| Common Stock Warrants (4,000 shares) (G) (H) |
— | — | ||||||||||||||
| Midwest Metal Distribution, Inc. |
Distribution-aluminum sheets and stainless steel | Senior Subordinated Term Debt (12.0%, Due 7/2013) (E) |
18,281 | 18,254 | 15,539 | |||||||||||
| Common Stock (501 shares) (G) (H) |
138 | — | ||||||||||||||
F-20
Table of Contents
GLADSTONE CAPITAL CORPORATION
CONSOLIDATED SCHEDULE OF INVESTMENTS
SEPTEMBER 30, 2010
(DOLLAR AMOUNTS IN THOUSANDS)
| Company(A) |
Industry |
Investment(B) |
Principal | Cost | Fair Value | |||||||||||
| U.S. Healthcare Communications, Inc. |
Service-magazine publisher/operator | Line of credit, $131 available (6.0%, Due 12/2010) (G) (I) |
$ | 269 | $ | 269 | $ | 5 | ||||||||
| Line of credit, $0 available (6.0%, Due 12/2010) (G) (I) |
450 | 450 | — | |||||||||||||
| Common Stock (100 shares) (G) (H) |
2,470 | — | ||||||||||||||
|
|
|
|
|
|||||||||||||
| Total Control Investments (represented 13% of total investments at fair value) |
|
$ | 54,076 | $ | 33,372 | |||||||||||
|
|
|
|
|
|||||||||||||
| Total Investments (J) |
|
$ | 298,216 | $ | 257,109 | |||||||||||
|
|
|
|
|
|||||||||||||
| (A) | Certain of the securities listed in the chart above are issued by affiliate(s) of the indicated portfolio company. |
| (B) | Percentage represents interest rates in effect at September 30, 2010, and due date represents the contractual maturity date. |
| (C) | LOT of senior debt, meaning if the portfolio company is liquidated, the holder of the LOT is paid after the senior debt. |
| (D) | LOT of senior debt, meaning if the portfolio company is liquidated, the holder of the LOT is paid after the senior debt; however, the debt is also junior to another LOT. |
| (E) | Fair value was primarily based on opinions of value submitted by Standard & Poor’s Securities Evaluations, Inc. |
| (F) | Security valued based on the indicative bid price on or near September 30, 2010, offered by the respective syndication agent’s trading desk or secondary desk. |
| (G) | Fair value was primarily based on the total enterprise value of the portfolio company using a liquidity waterfall approach. The Company also considered discounted cash flow methodologies. |
| (H) | Security is non-income producing. |
| (I) | Debt security is on non-accrual status. |
| (J) | Aggregate gross unrealized depreciation for federal income tax purposes is $1,919; aggregate gross unrealized appreciation for federal income tax purposes is $43,023. Net unrealized depreciation is $41,104 based on a tax cost of $298,186. |
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL STATEMENTS.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2011
(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA AND AS OTHERWISE INDICATED)
NOTE 1. ORGANIZATION
Gladstone Capital Corporation (the “Company”) was incorporated under the General Corporation Laws of the State of Maryland on May 30, 2001 and completed an initial public offering on August 23, 2001. The Company is a closed-end, non-diversified management investment company that has elected to be treated as a business development company (“BDC”) under the Investment Company Act of 1940, as amended (the “1940 Act”). In addition, the Company has elected to be treated for tax purposes as a regulated investment company (“RIC”) under the Internal Revenue Code of 1986, as amended (the “Code”). The Company’s investment objectives are to achieve a high level of current income by investing in debt securities, consisting primarily of senior notes, senior subordinated notes and junior subordinated notes, of established private businesses that are substantially owned by leveraged buyout funds, individual investors or are family-owned businesses, with a particular focus on senior notes. In addition, the Company may acquire from others existing loans that meet this profile.
Gladstone Business Loan, LLC (“Business Loan”), a wholly-owned subsidiary of the Company, was established on February 3, 2003 for the sole purpose of owning the Company’s portfolio of investments in connection with its line of credit.
Gladstone Financial Corporation (“Gladstone Financial”), a wholly-owned subsidiary of the Company, was established on November 21, 2006 for the purpose of holding a license to operate as a Specialized Small Business Investment Company. Gladstone Financial (previously known as Gladstone SSBIC Corporation) acquired this license in February 2007. The license enables the Company, through this subsidiary, to make investments in accordance with the United States Small Business Administration guidelines for specialized small business investment companies.
The financial statements of the subsidiaries are consolidated with those of the Company.
The Company is externally managed by Gladstone Management Corporation (the “Adviser”), an unconsolidated affiliate of the Company.
NOTE 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
These Consolidated Financial Statements and the accompanying notes are prepared in accordance with accounting principles generally accepted in the United States of America and conform to Regulation S-X under the Securities Exchange Act of 1934, as amended. Management believes it has made all necessary adjustments so that the Consolidated Financial Statements are presented fairly and that all such adjustments are of a normal recurring nature. The accompanying Consolidated Financial Statements include the accounts of the Company and its wholly-owned subsidiaries. All significant intercompany balances and transactions have been eliminated.
Reclassifications
Certain amounts in the prior year’s financial statements have been reclassified to conform to the presentation for the year ended September 30, 2011 with no effect to net (decrease) increase in net assets resulting from operations.
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Consolidation
Under Article 6 of Regulation S-X under the Securities Act of 1933, as amended, and the authoritative accounting guidance provided by the AICPA Audit and Accounting Guide for Investment Companies, the Company is not permitted to consolidate any subsidiary or other entity that is not an investment company, (including those in which the Company has a controlling interest).
Use of Estimates
Preparing financial statements requires management to make estimates and assumptions that affect the amounts reported in the Consolidated Financial Statements and accompanying notes. Actual results may differ from those estimates.
Cash
Cash is carried at cost, which approximates fair value. The Company places its cash with financial institutions, and at times, cash held in checking accounts may exceed the Federal Deposit Insurance Corporation insured limit. The Company seeks to mitigate this risk by depositing funds with major financial institutions.
Classification of Investments
In accordance with the federal securities laws, the Company classifies portfolio investments on its Consolidated Statements of Assets and Liabilities, its Consolidated Statements of Operations and its Consolidated Schedules of Investments into the following categories:
| • | Control Investments—Control investments are generally those in which the Company owns more than 25% of the voting securities or has greater than 50% representation on the board of directors; |
| • | Affiliate Investments—Affiliate investments are generally those in which the Company owns between 5% and 25% of the voting securities and has less than 50% representation on the board of directors, or is otherwise deemed to be an affiliate of the Company under the 1940 Act; and |
| • | Non-Control/Non-Affiliate Investments—Non-Control/Non-Affiliate investments are generally those in which the Company owns less than 5% of the voting securities. |
Investment Valuation Policy
The Company carries its investments at fair value to the extent that market quotations are readily available and reliable, and otherwise at fair value, as determined in good faith by its Board of Directors. In determining the fair value of the Company’s investments, the Adviser has established an investment valuation policy (the “Policy”). The Policy has been approved by the Company’s Board of Directors, and each quarter the Board of Directors reviews whether the Adviser has applied the Policy consistently and votes whether or not to accept the recommended valuation of the Company’s investment portfolio.
The Company uses generally accepted valuation techniques to value its portfolio unless the Company has specific information about the value of an investment to determine otherwise. From time to time, the Company may accept an appraisal of a business in which the Company holds securities. These appraisals are expensive and occur infrequently but provide a third-party valuation opinion that may differ in results, techniques and scopes used to value the Company’s investments. When these specific third-party appraisals are engaged or accepted, the Company uses estimates of value provided by such appraisals and its own assumptions, including estimated remaining life, current market yield and interest rate spreads of similar securities as of the measurement date, to value the investment the Company has in that business.
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The Policy, summarized below, applies to publicly-traded securities, securities for which a limited market exists, and securities for which no market exists.
Publicly-traded securities: The Company determines the value of publicly-traded securities based on the closing price for the security on the exchange or securities market on which it is listed and primarily traded on the valuation date. To the extent that the Company owns restricted securities that are not freely tradable, but for which a public market otherwise exists, the Company will use the market value of that security adjusted for any decrease in value resulting from the restrictive feature.
Securities for which a limited market exists: The Company values securities that are not traded on an established secondary securities market, but for which a limited market for the security exists, such as certain participations in, or assignments of, syndicated loans, at the quoted bid price. In valuing these assets, the Company assesses trading activity in an asset class and evaluates variances in prices and other market insights to determine if any available quote prices are reliable. If the Company concludes that quotes based on active markets or trading activity may be relied upon, firm bid prices are requested; however, if a firm bid price is unavailable, the Company bases the value of the security upon the indicative bid price (“IBP”) offered by the respective originating syndication agent’s trading desk, or secondary desk, on or near the valuation date. To the extent that the Company uses the IBP as a basis for valuing the security, the Adviser may take further steps to consider additional information to validate that price in accordance with the Policy.
In the event these limited markets become illiquid such that market prices are no longer readily available, the Company will value its syndicated loans using alternative methods, such as estimated net present values of the future cash flows or discounted cash flows (“DCF”). The use of a DCF methodology follows that prescribed by the Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) 820, “Fair Value Measurements and Disclosures,” which provides guidance on the use of a reporting entity’s own assumptions about future cash flows and risk-adjusted discount rates when relevant observable inputs, such as quotes in active markets, are not available. When relevant observable market data does not exist, the alternative outlined in ASC 820 is the valuation of investments based on DCF. For the purposes of using DCF to provide fair value estimates, the Company considers multiple inputs such as a risk-adjusted discount rate that incorporates adjustments that market participants would make both for nonperformance and liquidity risks. As such, the Company develops a modified discount rate approach that incorporates risk premiums including, among others, increased probability of default, or higher loss given default or increased liquidity risk. The DCF valuations applied to the syndicated loans provide an estimate of what the Company believes a market participant would pay to purchase a syndicated loan in an active market, thereby establishing a fair value. The Company will apply the DCF methodology in illiquid markets until quoted prices are available or are deemed reliable based on trading activity.
As of September 30, 2011, the Company determined that the indicative bid prices were reliable indicators of fair value. However, because of the private nature of this marketplace (meaning actual transactions are not publicly reported), the Company determined that these valuation inputs were classified as Level 3 within the fair value hierarchy as defined in ASC 820.
Securities for which no market exists: The valuation methodology for securities for which no market exists falls into three categories: (A) portfolio investments comprised solely of debt securities; (B) portfolio investments in controlled companies comprised of a bundle of securities, which can include debt and equity securities; (C) portfolio investments in non-controlled companies comprised of a bundle of investments, which can include debt and equity securities; and (D) portfolio investments comprised of non-publicly-traded non-control equity securities of other funds.
| (A) | Portfolio investments comprised solely of debt securities: Debt securities that are not publicly-traded on an established securities market, or for which a limited market does not exist (“Non-Public Debt Securities”), and that are issued by portfolio companies where the Company has no equity or equity-like |
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| securities, are fair valued in accordance with the terms of the Policy, which utilizes opinions of value submitted to the Company by Standard & Poor’s Securities Evaluations, Inc. (“SPSE”). The Company may also submit paid in kind (“PIK”) interest to SPSE for its evaluation when it is determined that PIK interest is likely to be received. |
| (B) | Portfolio investments in controlled companies comprised of a bundle of investments, which can include debt and equity securities: The fair value of these investments is determined based on the total enterprise value (“TEV”) of the portfolio company, or issuer, utilizing a liquidity waterfall approach under ASC 820 for the Company’s Non-Public Debt Securities and equity or equity-like securities (e.g. preferred equity, common equity, or other equity-like securities) that are purchased together as part of a package, where the Company has control or could gain control through an option or warrant security; both the debt and equity securities of the portfolio investment would exit in the mergers and acquisition market as the principal market, generally through a sale or recapitalization of the portfolio company. In accordance with ASC 820, the Company applies the in-use premise of value which assumes the debt and equity securities are sold together. Under this liquidity waterfall approach, the Company first calculates the TEV of the issuer by incorporating some or all of the following factors to determine the TEV of the issuer: |
| • | the issuer’s ability to make payments; |
| • | the earnings of the issuer; |
| • | recent sales to third parties of similar securities; |
| • | the comparison to publicly-traded securities; and |
| • | DCF or other pertinent factors. |
In gathering the sales to third parties of similar securities, the Company may reference industry statistics and use outside experts. Once the Company has estimated the TEV of the issuer, the Company will subtract the value of all the debt securities of the issuer, which are valued at the contractual principal balance. Fair values of these debt securities are discounted for any shortfall of TEV over the total debt outstanding for the issuer. Once the values for all outstanding senior securities (which include the debt securities) have been subtracted from the TEV of the issuer, the remaining amount, if any, is used to determine the value of the issuer’s equity or equity-like securities. If, in the Adviser’s judgment, the liquidity waterfall approach does not accurately reflect the value of the debt component, the Adviser may recommend that the Company use a valuation by SPSE, or if that is unav ailable, a DCF valuation technique.
| (C) | Portfolio investments in non-controlled companies comprised of a bundle of investments, which can include debt and equity securities: The Company values Non-Public Debt Securities that are purchased together with equity or equity-like securities from the same portfolio company, or issuer, for which the Company does not control or cannot gain control as of the measurement date, using a hypothetical secondary market as the Company’s principal market. In accordance with ASC 820, the Company determines its fair value of these debt securities of non-control investments assuming the sale of an individual debt security using the in-exchange premise of value. As such, the Company estimates the fair value of the debt component using estimates of value provided by SPSE and its own assumptions in the absence of observable market data, including synthetic credit ratings, estimated remaining life, current market yield and interest rate spreads of similar securities as of the measurement date. Subsequent to June 30, 2009, for equity or equity-like securities of investments for which the Company does not control or cannot gain control as of the measurement date, the Company estimates the fair value of the equity using the in-exchange premise of value based on factors such as the overall value of the issuer, the relative fair value of other units of account including debt, or other relative value approaches. Consideration is also given to capital structure and other contractual obligations that may impact the fair value of the equity. Further, the Company may utilize comparable values of similar companies, recent investments and indices with similar structures and risk characteristics or its own assumptions in the absence of other observable market data and may also employ DCF valuation techniques. |
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| (D) | Portfolio investments comprised of non-publicly-traded non-control equity securities of other funds: The Company values any uninvested capital of the non-control fund at par value and values any invested capital at the value provided by the non-control fund. |
Due to the uncertainty inherent in the valuation process, such estimates of fair value may differ significantly from the values that would have been obtained had a ready market for the securities existed, and the differences could be material. Additionally, changes in the market environment and other events that may occur over the life of the investments may cause the gains or losses ultimately realized on these investments to be different than the valuations currently assigned. There is no single standard for determining fair value in good faith, as fair value depends upon circumstances of each individual case. In general, fair value is the amount that the Company might reasonably expect to receive upon the current sale of the security in an orderly transaction between market participants at the measurement date.
Refer to Note 3 for additional information regarding fair value measurements and the Company’s application of ASC 820.
Interest Income Recognition
Interest income, adjusted for amortization of premiums and acquisition costs, the accretion of discounts and the amortization of amendment fees, is recorded on the accrual basis to the extent that such amounts are expected to be collected. Generally, when a loan becomes 90 days or more past due or if the Company’s qualitative assessment indicates that the debtor is unable to service its debt or other obligations, the Company will place the loan on non-accrual status and cease recognizing interest income on that loan until the borrower has demonstrated the ability and intent to pay contractual amounts due. However, the Company remains contractually entitled to this interest. Interest payments received on non-accrual loans may be recognized as income or applied to the cost basis, depending upon management’s judgment. Non-accrual loans are restored to accrual status when past due principal and interest are paid and, in management’s judgment, are likely to remain current, or due to a restructuring such that the interest income is deemed to be collectible. At September 30, 2011, three Non-Control/Non-Affiliate investment and five Control investments were on non-accrual with an aggregate cost basis of approximately $41.1 million, or 11.0% of the cost basis of all debt investments in the Company’s portfolio, and an aggregate fair value of approximately $5.3 million, or 1.8% of the fair value of all debt investments in the Company’s portfolio. At September 30, 2010, two Non-Control/Non-Affiliate investments and four Control investments were on non-accrual with an aggregate cost basis of approximately $29.9 million, or 10.2% of the cost basis of all debt investments in the Company’s portfolio, and an aggregate fair value of approximately $8.7 million, or 3.4% of the fair value of all debt investments in the Company’s portfolio.
As of September 30, 2011, the Company had 27 original issue discount (“OID”) loans, primarily from the syndicated loans in its portfolio. The Company recorded OID income of $0.2 million, $21, and $0.2 million for the fiscal years ended September 30, 2011, 2010 and 2009, respectively. The unamortized balance of OID investments as of September 30, 2011 and 2010 totaled $1.5 million and $0.3 million, respectively.
During the quarter ended June 30, 2011, our PIK investment was restructured and the PIK interest component was eliminated, therefore as of September 30, 2011, the Company had no investments that bore PIK interest. The PIK interest, computed at the contractual rate specified in each loan agreement, is added to the principal balance of the loan and recorded as income. To maintain the Company’s status as a RIC, this non-cash source of income must be paid out to stockholders in the form of distributions, even though the Company has not yet collected the cash. The Company recorded PIK income of $12, $67 and $166 for the fiscal years ended September 30, 2011, 2010 and 2009, respectively.
The Company also transfers past due interest to the principal balance as stipulated in certain loan amendments with portfolio companies. The Company transferred past due interest to the principal balance of $0.2 million,
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$1.2 million and $1.5 million for the fiscal years ended September 30, 2011, 2010 and 2009, respectively. For the fiscal year ended September 30, 2010, the Company also rolled over past due interest to a portfolio company’s principal balance of $0.7 million, and then recorded an adjustment against that principal balance as a contra-investment since the loan was on non-accrual and the collectability of the additional principal was uncertain. As a result of a restructure, the Company reversed this contra-investment amount of $0.7 million during 2011. These adjustments had no net impact to the Consolidated Statements of Operations.
Other Income
Success fees are recorded upon receipt. Success fees are contractually due upon a change of control in a portfolio company and are recorded in other income in the Consolidated Statements of Operations. The Company recorded $1.0 million of success fees during the year ended September 30, 2011, which resulted primarily from the exits of Pinnacle Treatment Centers, Inc. and Interfilm Holdings, Inc. and the prepayment of success fees from Westlake Hardware, Inc. During the year ended September 30, 2010, the Company received $1.9 million in success fees from the exits of ActivStyle Acquisition Co., Anitox Acquisition Co., Saunders & Associates, Visual Edge Technology, Inc., Tulsa Welding School and the prepayment of success fees from Doe & Ingalls Management LLC and Northern Contours, Inc. During the year ended September 30, 2009, the Company received $0.4 million in success fees from the prepayment of success fees from ActivStyle Acquisition Co. and Interfilm Holdings, Inc. and the exit from It’s Just Lunch.
In addition, we received $1.0 million from two legal settlements related to portfolio companies during the year ended September 30, 2011, that were recorded in other income.
Realized Gain or Loss and Unrealized Appreciation or Depreciation of Portfolio Investments
Gains or losses on the sale of investments are calculated by using the specific identification method. Realized gain or loss is recognized at the trade date, typically when an investment is disposed of and is computed as the difference between the Company’s cost basis in the investment at the disposition date and the net proceeds received from such disposition. Unrealized appreciation or depreciation displays the difference between the fair value of the investment and the cost basis of such investment. The Company must determine the fair value of each individual investment on a quarterly basis and record changes in fair value as unrealized appreciation or depreciation in its Consolidated Statement of Operations.
Costs Related to Shelf Registration Statements
Costs related to shelf registration statement filings are recorded as prepaid assets. These expenses are charged as a reduction of capital upon issuance of securities; or upon expiration of the registration statement, charged to shelf offering expense, in accordance with ASC 946-20, “Investment Company Activities.”
Deferred Financing Fees
Costs associated with the Company’s line of credit are deferred and amortized over the life of the line of credit. These costs are amortized in the Consolidated Statement of Operations as amortization of deferred financing fees using the straight line method which approximates the effective interest method.
Related Party Costs
The Company has entered into an investment advisory and management agreement (the “Advisory Agreement”) with the Adviser, which is controlled by the Company’s chairman and chief executive officer. In accordance with the Advisory Agreement, the Company pays the Adviser fees as compensation for its services, consisting of a base management fee and an incentive fee. The Company has entered into an administration agreement (the “Administration Agreement”) with Gladstone Administration, LLC (the “Administrator) whereby it pays
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separately for administrative services. These fees are accrued when the services are performed and generally paid one month in arrears. Refer to Note 4 for additional information regarding these related party costs and agreements.
Federal Income Taxes
The Company intends to continue to qualify for treatment as a RIC under subchapter M of the Code, which generally allows it to avoid paying corporate income taxes on any income or gains that it distributes to the Company’s stockholders. The Company has distributed and intends to continue to distribute sufficient distributions to eliminate taxable income. The Company may also be subject to federal excise tax if it does not distribute at least 98% of its ordinary income and 98% of its capital gain net income in a calendar year. Under the RIC Modernization Act, for excise tax years beginning January 1, 2011, the minimum distribution requirement for capital gains income has been raised to 98.2%.
ASC 740, “Income Taxes” requires the evaluation of tax positions taken or expected to be taken in the course of preparing the Company’s tax returns to determine whether the tax positions are “more-likely-than-not” of being sustained by the applicable tax authorities. Tax positions not deemed to satisfy the “more-likely-than-not” threshold would be recorded as a tax benefit or expense in the current year. The Company has evaluated the implications of ASC 740, for all open tax years and in all major tax jurisdictions, and determined that there is no material impact on the Consolidated Financial Statements. The Company’s federal tax returns for fiscal year 2009, 2010 and 2011 remain subject to examination by the Internal Revenue Service.
Distributions
Distributions to stockholders are recorded on the ex-distribution date. The Company is required to pay out at least 90% of its ordinary income and short-term capital gains for each taxable year as a distribution to its stockholders in order to maintain its status as a RIC under Subtitle A, Chapter 1 of Subchapter M of the Code. It is the policy of the Company to pay out as a distribution up to 100% of those amounts. The amount to be paid out as a distribution is determined by the Board of Directors each quarter and is based on the annual earnings estimated by the management of the Company. Based on that estimate, a distribution is declared each quarter and is paid out monthly over the course of the respective quarter. At year-end, the Company elected to treat a portion of the first distribution paid after year-end as having been paid in the prior year, in accordance with Section 855(a) of the Code. Additionally, at year-end the Company may pay a bonus distribution, in addition to the monthly distributions, to ensure that it has paid out at least 90% of its ordinary income and short-term capital gains for the year. The Company typically retains long-term capital gains, if any, and does not pay them out as distributions. If the Company decides to retain long-term capital gains, the portion of the retained capital gains will be subject to a 35% tax.
Recent Accounting Pronouncements
In May 2011, the FASB issued Accounting Standards Update No. 2011-04, “Fair Value Measurement (Topic 820): Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and IFRS,” (“ASU 2011-04”) which results in a consistent definition of fair value and common requirements for measurement of and disclosure about fair value between accounting principles generally accepted in the United States (“GAAP”) and IFRS. ASU 2011-04 is effective for interim and annual periods beginning after December 15, 2011. The adoption of ASU 2011-04 is not expected to materially impact the Company’s financial statements.
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NOTE 3. INVESTMENTS
ASC 820 defines fair value, establishes a framework for measuring fair value and expands disclosures about assets and liabilities measured at fair value. ASC 820 provides a consistent definition of fair value that focuses on exit price in the principal, or most advantageous, market and prioritizes, within a measurement of fair value, the use of market-based inputs over entity-specific inputs. ASC 820 also establishes the following three-level hierarchy for fair value measurements based upon the transparency of inputs to the valuation of an asset or liability as of the measurement date.
| • | Level 1 — inputs to the valuation methodology are quoted prices (unadjusted) for identical assets or liabilities in active markets; |
| • | Level 2 — inputs to the valuation methodology include quoted prices for similar assets and liabilities in active markets, and inputs that are observable for the asset or liability, either directly or indirectly, for substantially the full term of the financial instrument. Level 2 inputs are in those markets for which there are few transactions, the prices are not current, little public information exists or instances where prices vary substantially over time or among brokered market makers; and |
| • | Level 3— inputs to the valuation methodology are unobservable and significant to the fair value measurement. Unobservable inputs are those inputs that reflect the Company’s own assumptions that market participants would use to price the asset or liability based upon the best available information. |
As of September 30, 2011 and 2010, all of the Company’s investments were valued using Level 3 inputs. The Company transfers investments in and out of Level 1, 2 and 3 securities as of the beginning balance sheet date, based on changes in the use of observable and unobservable inputs utilized to perform the valuation for the period. During the years ended September 30, 2011 and 2010, there were no transfers in or out of Level 1, 2 or 3.
The following tables present the investments carried at fair value as of September 30, 2011 and 2010, by caption on the accompanying Consolidated Statements of Assets and Liabilities, all of which are valued using level 3 inputs:
| Level 3 – Investments | ||||||||
| Total Fair Value Reported in Consolidated Statements of Assets and Liabilities As of September 30, |
||||||||
| 2011 | 2010 | |||||||
| Non-Control/Non-Affiliate Investments |
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| Senior Term Loans |
$ | 182,002 | $ | 163,203 | ||||
| Senior Subordinated Term Loans |
72,182 | 59,463 | ||||||
| Preferred Equity |
566 | 387 | ||||||
| Common Equity/Equivalents |
2,552 | 684 | ||||||
|
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|
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| Total Non-Control/Non-Affiliate Investments |
$ | 257,302 | $ | 223,737 | ||||
|
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|
|
|
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| Control Investments |
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| Senior Term Loans |
$ | 18,143 | $ | 9,393 | ||||
| Senior Subordinated Term Loans |
19,966 | 22,436 | ||||||
| Common Equity/Equivalents |
7,536 | 1,543 | ||||||
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|
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| Total Control Investments |
$ | 45,645 | $ | 33,372 | ||||
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| Total Investments at Fair Value |
$ | 302,947 | $ | 257,109 | ||||
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Changes in Level 3 Fair Value Measurements
The following tables provide a roll-forward in the changes in fair value during the year ended September 30, 2011 and 2010 for all investments for which the Company determines fair value using unobservable (Level 3) factors. When a determination is made to classify a financial instrument within Level 3 of the valuation hierarchy, the determination is based upon the significance of the unobservable factors to the overall fair value measurement. However, Level 3 financial instruments typically include, in addition to the unobservable or Level 3 components, observable components (that is, components that are actively quoted and can be validated to external sources). Accordingly, the gains and losses in the tables below include changes in fair value due in part to observable factors that are part of the valuation methodology.
Fair value measurements using significant unobservable data inputs (Level 3)
| Fiscal Year 2011:
|
||||||||||||
| Non-Control/ Non-Affiliate Investments |
Control Investments |
Total | ||||||||||
| Year ended September 30, 2011: |
||||||||||||
| Fair value as of September 30, 2010 |
$ | 223,737 | $ | 33,372 | $ | 257,109 | ||||||
| Total gains or losses |
||||||||||||
| Realized losses (a) |
(1,119 | ) | — | (1,119 | ) | |||||||
| Reversal of prior period depreciation on realization (b) |
3,969 | — | 3,969 | |||||||||
| Unrealized depreciation (b) |
(25,332 | ) | (17,396 | ) | (42,728 | ) | ||||||
| New investments, repayments and settlements (c) |
||||||||||||
| Issuances/New investments |
125,895 | 10,575 | 136,470 | |||||||||
| Settlements/Repayments |
(43,054 | ) | (3,533 | ) | (46,587 | ) | ||||||
| Sales |
(3,427 | ) | (740 | ) | (4,167 | ) | ||||||
| Transfers |
(23,367 | ) | 23,367 | — | ||||||||
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|
|
|
|
|
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| Fair value as of September 30, 2011 |
$ | 257,302 | $ | 45,645 | $ | 302,947 | ||||||
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| Senior Term Loans |
Senior Subordinated Term Loans |
Preferred Equity |
Common Equity/ Equivalents |
Total | ||||||||||||||||
| Year ended September 30, 2011: |
||||||||||||||||||||
| Fair value as of September 30, 2010 |
$ | 172,596 | $ | 81,899 | $ | 386 | $ | 2,228 | $ | 257,109 | ||||||||||
| Total gains or losses |
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| Realized losses (a) |
(1,105 | ) | (14 | ) | — | — | (1,119 | ) | ||||||||||||
| Reversal of prior period depreciation (appreciation) on realization (b) |
3,485 | 731 | — | (247 | ) | 3,969 | ||||||||||||||
| Unrealized (depreciation) appreciation (b) |
(42,381 | ) | (3,639 | ) | (2,295 | ) | 5,587 | (42,728 | ) | |||||||||||
| New investments, repayments, and settlements, net (c) |
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| Issuances/New investments |
110,041 | 20,657 | 2,475 | 3,297 | 136,470 | |||||||||||||||
| Settlements/Repayments |
(39,101 | ) | (7,486 | ) | — | — | (46,587 | ) | ||||||||||||
| Sales |
(3,390 | ) | — | — | (777 | ) | (4,167 | ) | ||||||||||||
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|||||||||||
| Fair value as of September 30, 2011 |
$ | 200,145 | $ | 92,148 | $ | 566 | $ | 10,088 | $ | 302,947 | ||||||||||
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F-30
Table of Contents
| Fiscal Year 2010:
|
||||||||||||
| Non-Control/ Non-Affiliate Investments |
Control Investments |
Total | ||||||||||
| Year ended September 30, 2010: |
||||||||||||
| Fair value as of September 30, 2009 |
$ | 286,997 | $ | 33,972 | $ | 320,969 | ||||||
| Total gains or losses |
||||||||||||
| Realized losses (a) |
(28 | ) | (2,865 | ) | (2,893 | ) | ||||||
| Reversal of prior period depreciation on realization (b) |
3,546 | 2,865 | 6,411 | |||||||||
| Unrealized appreciation (depreciation) (b) |
1,098 | (5,192 | ) | (4,094 | ) | |||||||
| New investments, repayments and settlements (c) |
||||||||||||
| Issuances/New investments |
17,774 | 4,627 | 22,401 | |||||||||
| Settlements/Repayments |
(82,531 | ) | (35 | ) | (82,566 | ) | ||||||
| Sales |
(3,119 | ) | — | (3,119 | ) | |||||||
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|
|
|
|
|
|||||||
| Fair value as of September 30, 2010 |
$ | 223,737 | $ | 33,372 | $ | 257,109 | ||||||
|
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|
|
|
|
|
|||||||
| Senior Term Loans |
Senior Subordinated Term Loans |
Preferred Equity |
Common Equity/ Equivalents |
Total | ||||||||||||||||
| Year ended September 30, 2010: |
||||||||||||||||||||
| Fair value as of September 30, 2009 |
$ | 212,290 | $ | 105,794 | $ | — | $ | 2,885 | $ | 320,969 | ||||||||||
| Total gains or losses |
||||||||||||||||||||
| Realized (losses) gains (a) |
(2,104 | ) | (571 | ) | (1,584 | ) | 1,366 | (2,893 | ) | |||||||||||
| Reversal of prior period depreciation (appreciation) on realization (b) |
3,453 | 1,620 | 1,584 | (246 | ) | 6,411 | ||||||||||||||
| Unrealized (depreciation) |
(3,016 | ) | (758 | ) | 386 | (706 | ) | (4,094 | ) | |||||||||||
| New investments, repayments, and settlements, net (c) |
||||||||||||||||||||
| Issuances/New investments |
19,551 | 2,355 | — | 495 | 22,401 | |||||||||||||||
| Settlements/Repayments |
(56,653 | ) | (24,347 | ) | — | (1,566 | ) | (82,566 | ) | |||||||||||
| Sales |
(925 | ) | (2,194 | ) | — | — | (3,119 | ) | ||||||||||||
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|
|
|
|
|
|
|||||||||||
| Fair value as of September 30, 2010 |
$ | 172,596 | $ | 81,899 | $ | 386 | $ | 2,228 | $ | 257,109 | ||||||||||
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| (a) | Included in net realized loss on investments on the accompanying Consolidated Statements of Operations for the years ended September 30, 2011 and 2010. |
| (b) | Included in net unrealized (depreciation) appreciation on investments on the accompanying Consolidated Statements of Operations for the years ended September 30, 2011 and 2010. |
| (c) | Includes increases in the cost basis of investments resulting from new portfolio investments, the amortization of discounts, premiums and closing fees as well as decreases in the cost basis of investments resulting from principal repayments or sales. |
Non-Control/Non-Affiliate Investments
As of September 30, 2011 and 2010, the Company held 50 and 33 Non-Control/Non-Affiliate investments in the aggregate of approximately $257.3 million and $223.7 million, at fair value, respectively. During the year ended September 30, 2011, $95.7 million was funded to 23 new Non-Control/Non-Affiliate syndicate loans, and $15.2 million was funded to two new Non-Control/Non-Affiliate non-syndicate investments. Additionally, $14.8 million was funded to existing Non-Control/Non-Affiliate portfolio companies. During year ended September 30, 2011, the Company received principal payoffs, at par, on four Non-Control/Non-Affiliate investments, for which the Company received aggregate payments of $25.8 million and sold one Non-Control/Non-Affiliate investment for $37. As of September 30, 2011, the Company had a total of 50 Non-Control/Non-Affiliate investments, 24 of which were syndicated loans.
F-31
Table of Contents
Control Investments
As of September 30, 2011 and 2010, the Company held nine and six Control investments in the aggregate of approximately $45.6 million and $33.4 million, at fair value, respectively. During the year ended September 30, 2011, $10.6 million was funded to six Control investments. The Company did not exit any Control investments during the year ended September 30, 2011. During the year ended September 30, 2011, three existing Non-Control/Non-Affiliate investments were restructured into Control investments.
| • | Sunshine Media Holdings (“Sunshine Media”): In January 2011, the Company purchased a controlling interest in common stock from existing shareholders of Sunshine Media. Sunshine Media is a publisher of regional B2B trade magazines. |
| • | Viapack, Inc. (“Viapack”): In July, 2011, the Company purchased a controlling interest in the equity securities of Viapack. Viapack is a manufacturer of polyethylene film. |
| • | Kansas Cable Holdings, Inc. (“Kansas Cable”): In August 2011, the Company restructured its loan to SCI Cable, Inc. (“SCI”) through a UCC Article 9 sale, resulting in a new control entity, Kansas Cable, obtaining certain of the assets of SCI. This resulted in a realized loss of $1.3 million. Kansas Cable replaces SCI on the Schedule of Investments and remains on non-accrual status. Kansas Cable is a provider of cable, internet and voice services. |
Investment Concentrations
As of September 30, 2011, the Company’s portfolio consisted of loans to 59 companies in 27 states in 23 different industries with a fair value of $302.9 million. Year over year, the Company’s investment concentration as a percentage of fair value and of cost has changed only slightly. During 2011, the Company decided based on favorable syndicate loan marketplace conditions to invest in a significant number of senior syndicated loans. New syndicated loan investments totaled 23 at a cost of $95.7 million during 2011. As of September 30, 2011, there were 24 syndicated investments totaling $92.1 million at cost and $90.7 million at fair value, or 24.0% and 29.9% of the total aggregate portfolio, respectively.
The following table outlines the Company’s investments by security type as of September 30, 2011 and 2010:
| September 30, 2011 | September 30, 2010 | |||||||||||||||||||||||||||||||
| Cost | Fair Value | Cost | Fair Value | |||||||||||||||||||||||||||||
| Senior term debt |
$ | 266,491 | 69.6 | % | $ | 200,145 | 66.1 | % | $ | 200,041 | 67.1 | % | $ | 172,596 | 67.1 | % | ||||||||||||||||
| Senior subordinated term debt |
107,140 | 28.0 | 92,148 | 30.4 | 93,987 | 31.5 | 81,899 | 31.8 | ||||||||||||||||||||||||
| Common equity/equivalents |
7,999 | 2.1 | 10,088 | 3.3 | 3,744 | 1.3 | 2,227 | 0.9 | ||||||||||||||||||||||||
| Preferred equity |
1,185 | 0.3 | 566 | 0.2 | 444 | 0.1 | 387 | 0.2 | ||||||||||||||||||||||||
|
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|
|
|
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|
|
|
|
|
|||||||||||||||||
| Total investments |
$ | 382,815 | 100.0 | % | $ | 302,947 | 100.0 | % | $ | 298,216 | 100.0 | % | $ | 257,109 | 100.0 | % | ||||||||||||||||
|
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The 5 largest investments at fair value as of September 30, 2011 totaled $91.2 million, or 30.1% of the total aggregated portfolio as compared to the 5 largest investments at fair value as of September 30, 2010 totaling $101.5 million, or 39.4% of the total aggregated portfolio.
F-32
Table of Contents
Investments at fair value consisted of the following industry classifications at September 30, 2011 and 2010:
| September 30, 2011 | September 30, 2010 | |||||||||||||||
| Industry Classification |
Fair Value | Percentage of Total Investments |
Fair Value | Percentage of Total Investments |
||||||||||||
| Electronics |
$ | 45,752 | 15.1 | % | $ | 25,080 | 9.8 | % | ||||||||
| Healthcare, education & childcare |
34,106 | 11.3 | 41,098 | 16.0 | ||||||||||||
| Mining, steel, iron & non-precious metals |
33,734 | 11.1 | 24,343 | 9.5 | ||||||||||||
| Broadcast (TV & radio) |
28,194 | 9.3 | 44,562 | 17.3 | ||||||||||||
| Automobile |
25,768 | 8.5 | 9,868 | 3.8 | ||||||||||||
| Retail stores |
19,340 | 6.4 | 19,620 | 7.6 | ||||||||||||
| Printing & publishing |
17,623 | 5.8 | 37,705 | 14.7 | ||||||||||||
| Buildings & real estate |
10,275 | 3.4 | 12,454 | 4.8 | ||||||||||||
| Aerospace & defense |
10,003 | 3.3 | 400 | 0.2 | ||||||||||||
| Home & office furnishings |
9,715 | 3.2 | 10,666 | 4.1 | ||||||||||||
| Textiles & leather |
9,626 | 3.2 | — | — | ||||||||||||
| Diversified/conglomerate manufacturing |
8,790 | 2.9 | 2,042 | 0.8 | ||||||||||||
| Machinery |
8,696 | 2.9 | 8,719 | 3.4 | ||||||||||||
| Personal, food and miscellaneous services |
7,635 | 2.5 | — | — | ||||||||||||
| Beverage, food & tobacco |
7,332 | 2.4 | — | — | ||||||||||||
| Personal & non-durable consumer products |
6,962 | 2.3 | 9,230 | 3.6 | ||||||||||||
| Leisure, amusement, movies & entertainment |
6,607 | 2.2 | 3,994 | 1.6 | ||||||||||||
| Diversified/conglomerate service |
3,810 | 1.3 | — | — | ||||||||||||
| Diversified natural resources, precious metals & minerals |
3,054 | 1.0 | — | — | ||||||||||||
| Oil & gas |
1,916 | 0.6 | — | — | ||||||||||||
| Telecommunications |
1,794 | 0.6 | — | — | ||||||||||||
| Chemicals, plastics & rubber |
1,225 | 0.4 | 7,044 | 2.7 | ||||||||||||
| Insurance |
990 | 0.3 | — | — | ||||||||||||
| Farming & agriculture |
— | — | 284 | 0.1 | ||||||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| Total investments |
$ | 302,947 | 100.0 | % | $ | 257,109 | 100.0 | % | ||||||||
|
|
|
|
|
|
|
|
|
|||||||||
Eight new industries were invested in during the year ended September 30, 2011, as the Company made 25 new investments during the year in total. This brings the net total industries invested in up to 23 from 16 for the year ended September 30, 2010.
The investments at fair value were included in the following geographic regions of the United States at September 30, 2011 and September 30, 2010:
| September 30, 2011 | September 30, 2010 | |||||||||||||||
| Geographic Region |
Fair Value | Percent of Total Investments |
Fair Value | Percentage of Total Investments |
||||||||||||
| Midwest |
$ | 144,292 | 47.6 | % | $ | 109,299 | 42.5 | % | ||||||||
| West |
70,862 | 23.4 | 59,684 | 23.2 | ||||||||||||
| South |
52,265 | 17.3 | 44,704 | 17.4 | ||||||||||||
| Northeast |
28,158 | 9.3 | 36,995 | 14.4 | ||||||||||||
| Other |
7,370 | 2.4 | 6,427 | 2.5 | ||||||||||||
|
|
|
|
|
|
|
|
|
|||||||||
| Total Investments |
$ | 302,947 | 100.0 | % | $ | 257,109 | 100.0 | % | ||||||||
|
|
|
|
|
|
|
|
|
|||||||||
The geographic region indicates the location of the headquarters for the Company’s portfolio companies. A portfolio company may have a number of other business locations in other geographic regions.
F-33
Table of Contents
Investment Principal Repayment
The following table summarizes the contractual principal repayment and maturity of the Company’s investment portfolio by fiscal year, assuming no voluntary prepayments, at September 30, 2011:
| Fiscal year ending September 30, |
Amount | |||
| 2012 |
$ | 60,817 | ||
| 2013 |
131,377 | |||
| 2014 |
35,172 | |||
| 2015 |
32,272 | |||
| 2016 |
72,363 | |||
| 2017 and thereafter |
43,868 | |||
|
|
|
|||
| Total contractual repayments |
$ | 375,869 | ||
| Investments in equity securities |
9,184 | |||
| Adjustments to cost basis on debt securities |
(2,238 | ) | ||
|
|
|
|||
| Total cost basis of investments held at September 30, 2011: |
$ | 382,815 | ||
|
|
|
|||
Receivables from Portfolio Companies
Receivables from portfolio companies represent non-recurring costs incurred on behalf of such portfolio companies and are included in other assets on the Consolidated Statements of Assets and Liabilities. The Company maintains an allowance for uncollectible receivables from portfolio companies, which is determined based on historical experience and management’s expectations of future losses. The Company charges the accounts receivable to the established provision when collection efforts have been exhausted and the receivables are deemed uncollectible. As of September 30, 2011 and 2010, the Company had gross receivables from portfolio companies of $0.8 million. The allowance for uncollectible receivables was $0.4 million for September 30, 2011 and $0.3 million for September 30, 2010. In addition, the Company recorded an allowance for uncollectible interest receivable of $65 as of September 30, 2011. No allowance for uncollectible interest receivable was recorded as of September 30, 2010.
NOTE 4. RELATED PARTY TRANSACTIONS
Loans to Former Employees
The Company has outstanding loans to certain employees of the Adviser, each of whom was a joint employee of the Adviser (or the Company’s previous adviser, Gladstone Capital Advisers, Inc.) and the Company at the time the loans were originally provided. The loans were for the exercise of options granted under the Amended and Restated 2001 Equity Incentive Plan, which has since been terminated. The loans require the quarterly payment of interest at the market rate in effect at the date of issuance, have varying terms not exceeding ten years and have been recorded as a reduction of net assets. The loans are evidenced by full recourse notes that are due upon maturity or 60 days following termination of employment, and the shares of common stock purchased with the proceeds of the loan were posted as collateral. The Company received $3.2 million and $1.4 million of principal repayments during the years ended September 30, 2011 and 2010, respectively. The Company recognized interest income from all employee loans of $0.4 million, $0.4 million and $0.5 million for the years ended September 30, 2011, 2010 and 2009. Refer to Note 7, “Common Stock Transactions” for additional information related to these transactions.
During the year ended September 30, 2010, $0.5 million of an employee stock option loan to a former employee of the Adviser was transferred from notes receivable – employees to other assets in connection with the termination of her employment with the Adviser and the later amendment of the loan. The interest on the loan from the time the employee’s employment ended with the Adviser is included in other income on the accompanying Consolidated Statement of Operations.
F-34
Table of Contents
Compensation Expense
During the year ended September 30, 2010, the employee stock option loans of two former employees were converted from recourse to non-recourse loans. In connection with these conversions, the Company repurchased and retired the shares of common stock pledged as collateral for the loans, which shares had previously been acquired upon the exercise of the stock options in consideration for the issuance of the loans. The repurchases were accounted for as treasury stock transactions at the fair value of the shares, based on the trading price of the Company’s common stock on the date of the transactions, totaling $0.4 million. Since the value of the stock option loans totaled $0.6 million, the Company recorded non-cash compensation expense of $0.2 million during the year ended September 30, 2010.
Investment Advisory and Management Agreement
The Company has entered into an investment advisory agreement with the Adviser (the “Advisory Agreement”), which is controlled by the Company’s chairman and chief executive officer. In accordance with the Advisory Agreement, the Company pays the Adviser certain fees as compensation for its services, such fees consisting of a base management fee and an incentive fee. On July 12, 2011, the Board of Directors approved the renewal of the Advisory Agreement through August 31, 2012.
The following table summarizes the management fees, incentive fees and associated credits reflected in the accompanying Consolidated Statements of Operations:
| Year Ended September 30, | ||||||||||||
| 2011 | 2010 | 2009 | ||||||||||
| Average total assets subject to base management fee (A) |
$ | 286,550 | $ | 304,250 | $ | 381,250 | ||||||
| Multiplied by annual base management fee of 2.0% |
2.0 | % | 2.0 | % | 2.0 | % | ||||||
|
|
|
|
|
|
|
|||||||
| Gross base management fee |
5,731 | 6,085 | 7,625 | |||||||||
| Reduction for loan servicing fees (B) |
(3,355 | ) | (3,412 | ) | (5,620 | ) | ||||||
|
|
|
|
|
|
|
|||||||
| Base management fee (B) |
2,376 | 2,673 | 2,005 | |||||||||
| Credit for fees received by Adviser from the portfolio companies |
(239 | ) | (213 | ) | (89 | ) | ||||||
| Fee reduction for the voluntary, irrevocable waiver of 2% fee on senior syndicated loans to 0.5% per annum |
(383 | ) | (42 | ) | (265 | ) | ||||||
|
|
|
|
|
|
|
|||||||
| Net base management fee |
$ | 1,754 | $ | 2,418 | $ | 1,651 | ||||||
|
|
|
|
|
|
|
|||||||
| Gross incentive fee (B) |
$ | 4,598 | $ | 1,823 | $ | 3,326 | ||||||
| Credit from voluntary, irrevocable waiver issued by Adviser’s board of directors |
(21 | ) | (165 | ) | (3,326 | ) | ||||||
|
|
|
|
|
|
|
|||||||
| Net incentive fee |
$ | 4,577 | $ | 1,658 | $ | — | ||||||
|
|
|
|
|
|
|
|||||||
| Credit for fees received by Adviser from the portfolio companies |
$ | (239 | ) | $ | (213 | ) | $ | (89 | ) | |||
| Fee reduction for the voluntary, irrevocable waiver of 2% fee on senior syndicated loans to 0.5% per annum |
(383 | ) | (42 | ) | (265 | ) | ||||||
| Incentive fee credit |
(21 | ) | (165 | ) | (3,326 | ) | ||||||
|
|
|
|
|
|
|
|||||||
| Credit to base management and incentive fees from Adviser (B) |
$ | (643 | ) | $ | (420 | ) | $ | (3,680 | ) | |||
|
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|
|
|
|
|
|||||||
| (A) | Average total assets subject to the base management fee is defined as total assets, including investments made with proceeds of borrowings, less any uninvested cash and cash equivalents resulting from borrowings, valued at the end of the four most recently completed quarters and appropriately adjusted for any share issuances or repurchases during the applicable year. |
| (B) | Reflected as a line item in the Consolidated Statements of Operations. |
F-35
Table of Contents
Base Management Fee
The base management fee is payable quarterly and assessed at a rate of 2.0%, computed on the basis of the value of the Company’s average gross assets at the end of the two most recently completed quarters, which are total assets, including investments made with proceeds of borrowings, less any uninvested cash or cash equivalents resulted from borrowings. In addition, the following three items are adjustments to the base management fee calculation:
| • | Loan Servicing Fees |
The Adviser also services the loans held by Business Loan, in return for which it generally receives a 1.5% annual fee based on the monthly aggregate outstanding balance of loans pledged under the Company’s line of credit. Since the Company owns these loans, all loan servicing fees paid to the Adviser are treated as reductions directly against the 2.0% base management fee under the Advisory Agreement.
| • | Senior Syndicated Loan Fee Waiver |
The Company’s Board of Directors accepted an unconditional and irrevocable voluntary waiver from the Adviser to reduce the annual 2.0% base management fee on senior syndicated loan participations to 0.5%, to the extent that proceeds resulting from borrowings were used to purchase such syndicated loan participations, for the years ended September 30, 2011 and 2010.
| • | Portfolio Company Fees |
Under the Advisory Agreement, the Adviser has also provided, and continues to provide, managerial assistance and other services to the Company’s portfolio companies and may receive fees for services other than managerial assistance with 50% of certain of these fees, and 100% of others, credited against the base management fee that the Company would otherwise be required to pay to the Adviser.
Incentive Fee
The incentive fee consists of two parts: an income-based incentive fee and a capital gains incentive fee. The income-based incentive fee rewards the Adviser if the Company’s quarterly net investment income (before giving effect to any incentive fee) exceeds 1.75% of the Company’s net assets (the “hurdle rate”). The Company will pay the Adviser an income-based incentive fee with respect to the Company’s pre-incentive fee net investment income in each calendar quarter as follows:
| • | no incentive fee in any calendar quarter in which the Company’s pre-incentive fee net investment income does not exceed the hurdle rate (7% annualized); |
| • | 100% of the Company’s pre-incentive fee net investment income with respect to that portion of such pre-incentive fee net investment income, if any, that exceeds the hurdle rate but is less than 2.1875% in any calendar quarter (8.75% annualized); and |
| • | 20% of the amount of the Company’s pre-incentive fee net investment income, if any, that exceeds 2.1875% in any calendar quarter (8.75% annualized). |
The Company’s Board of Directors accepted on unconditional and irrevocable voluntary waiver from the Adviser to reduce the income-based incentive fee to the extent net investment income did not 100% cover distributions to stockholders for the years ended September 30, 2011 and 2010.
The second part of the incentive fee is a capital gains-based incentive fee that is determined and payable in arrears as of the end of each fiscal year (or upon termination of the Advisory Agreement, as of the termination date) and equals 20% of the Company’s realized capital gains as of the end of the fiscal year. In determining the
F-36
Table of Contents
capital gains-based incentive fee payable to the Adviser, the Company will calculate the cumulative aggregate realized capital gains and cumulative aggregate realized capital losses since the Company’s inception, and the aggregate unrealized capital depreciation as of the date of the calculation, as applicable, with respect to each of the investments in the Company’s portfolio. For this purpose, cumulative aggregate realized capital gains, if any, equals the sum of the differences between the net sales price of each investment, when sold, and the original cost of such investment since the Company’s inception. Cumulative aggregate realized capital losses equals the sum of the amounts by which the net sales price of each investment, when sold, is less than the original cost of such investment since the Company’s inception. Aggregate unrealized capital depreciation equals the sum of the difference, if negative, between the valuation of each investment as of the applicable calculation date and the original cost of such investment. At the end of the applicable year, the amount of capital gains that serves as the basis for the Company’s calculation of the capital gains-based incentive fee equals the cumulative aggregate realized capital gains less cumulative aggregate realized capital losses, less aggregate unrealized capital depreciation, with respect to the Company’s portfolio of investments. If this number is positive at the end of such year, then the capital gains-based incentive fee for such year equals 20% of such amount, less the aggregate amount of any capital gains-based incentive fees paid in respect of the Company’s portfolio in all prior years. No capital gains-based incentive fee had been recorded for the Company from inception through September 30, 2011, as cumulative unrealized capital depreciation exceeded cumulative realized capital gains net of cumulative realized capital losses.
Additionally, in accordance with GAAP, the Company did not accrue a capital gains-based incentive fee for the year ended September 30, 2011. This GAAP accrual is calculated using the aggregate cumulative realized capital gains and losses and aggregate cumulative unrealized capital depreciation included in the calculation of the capital gains-based incentive fee plus the aggregate cumulative unrealized capital appreciation. If such amount is positive at the end of a relevant period, then GAAP requires the Company to record a capital gains-based incentive fee equal to 20% of such amount, less the aggregate amount of actual capital gains-based incentive fees paid in all prior years. If such amount is negative, then there is no accrual for such year. GAAP requires that the capital gains-based incentive fee accrual consider the cumulative aggregate unrealized capital appreciation in the calculation, as a capital gains-based incentive fee would be payable if such unrealized capital appreciation were realized. There can be no assurance that such unrealized capital appreciation will be realized in the future.
As a BDC, the Company makes available significant managerial assistance to its portfolio companies and provides other services to such portfolio companies. Although, neither the Company nor its Adviser currently receives fees in connection with managerial assistance, the Adviser provides other services to the Company’s portfolio companies and receives fees for these other services. For example, certain of the Company’s portfolio companies contract directly with our Adviser for the provision of consulting services.
Administration Agreement
The Company has entered into an administration agreement (the “Administration Agreement”) with Gladstone Administration, LLC (the “Administrator”), an affiliate of the Adviser, whereby it pays separately for administrative services. The Administration Agreement provides for payments equal to the Company’s allocable portion of its Administrator’s overhead expenses in performing its obligations under the Administration Agreement, including, but not limited to, rent and the salaries and benefits expenses of the Company’s chief financial officer, chief compliance officer, treasurer, internal legal counsel and their respective staffs. The Company’s allocable portion of administrative expenses is generally derived by multiplying the Administrator’s total allocable expenses by the percentage of the Company’s total assets at the beginning of the quarter in comparison to the total assets at the beginning of the quarter of all companies managed by the Adviser under similar agreements. On July 12, 2011, the Board of Directors approved the renewal of the Administration Agreement through August 31, 2012.
F-37
Table of Contents
Related Party Fees Due
Amounts due to related parties on the accompanying Consolidated Statements of Assets and Liabilities were as follows:
| As of September 30, | ||||||||
| 2011 | 2010 | |||||||
| Base management fee due to Adviser |
$ | 330 | $ | 319 | ||||
| Incentive fee due to Adviser |
1,203 | 158 | ||||||
| Loan servicing fee due to Adviser |
227 | 196 | ||||||
|
|
|
|
|
|||||
| Total fees due to Adviser |
1,760 | 673 | ||||||
|
|
|
|
|
|||||
| Fee due to Administrator |
194 | 267 | ||||||
|
|
|
|
|
|||||
| Total related party fees due |
$ | 1,954 | $ | 940 | ||||
|
|
|
|
|
|||||
NOTE 5. BORROWINGS
Line of Credit
On March 15, 2010, the Company, through its wholly-owned subsidiary, Business Loan, entered into a fourth amended and restated credit agreement which provided for a $127.0 million revolving line of credit arranged by Key Equipment Finance Inc. (“Keybank”) as administrative agent (the “Credit Facility”). Branch Banking and Trust Company (“BB&T”) and ING Capital LLC (“ING”) also joined the Credit Facility as committed lenders. Subject to certain terms and conditions, the Credit Facility may be expanded up to $202.0 million through the addition of other committed lenders to the facility. On November 22, 2010 (the “Amendment Date”), the Company amended its Credit Facility. Prior to the Amendment Date, advances under the Credit Facility bore interest at a 30-day London Interbank Offered Rate (“LIBOR”) subject to a minimum rate of 2.0%, plus 4.5% per annum, with a commitment fee of 0.5% per annum on undrawn amounts. As of the Amendment Date, advances under the Credit Facility bear interest at a 30-day LIBOR or commercial paper rate (subject to a minimum rate of 1.5%), plus 3.75% per annum, with a commitment fee of 0.5% per annum on undrawn amounts when the facility is drawn more than 50% and 1.0% per annum on undrawn amounts when the facility is drawn less than 50%. In addition, effective as of the Amendment Date, the Company is no longer obligated to pay an annual minimum earnings shortfall fee to the committed lenders, which was calculated as the difference between the weighted average of borrowings outstanding under the Credit Facility and 50.0% of the commitment amount of the Credit Facility, multiplied by 4.5% per annum, less commitment fees paid during the year. During the quarter ended December 31, 2010, the Company reversed the projected annual minimum earnings shortfall fee of $0.6 million that had been accrued as of September 30, 2010. The Company paid a $0.7 million fee in connection with the November 2010 amendment. On August 9, 2011, ING, increased its commitment by $10 million, bring the total revolving line of credit to $137.0 million. All other terms of the existing line of credit remained the same.
The Credit Facility matures on March 15, 2012, and, if the facility is not renewed or extended by this date, all unpaid principal and interest will be due and payable on March 15, 2013. In addition, if the Credit Facility is not renewed on or before March 15, 2012, the Company will be required to use all principal collections from its loans to pay outstanding principal on the Credit Facility.
The following tables summarize noteworthy information related to the Credit Facility:
| As of September 30, | ||||||||
| 2011 | 2010 | |||||||
| Commitment amount |
$ | 137,000 | $ | 127,000 | ||||
| Borrowings outstanding |
99,400 | 16,800 | ||||||
| Availability |
24,700 | 81,000 | ||||||
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| Year Ended September 30, | ||||||||
| 2011 | 2010 | |||||||
| Weighted average borrowings outstanding |
$ | 49,169 | $ | 47,918 | ||||
| Effective interest rate(A) |
6.00 | % | 7.0 | % | ||||
| Commitment fees incurred |
$ | 648 | $ | 393 | ||||
| (A) | Excludes the impact of deferred financing fees. |
Interest is payable monthly during the term of the Credit Facility. Available borrowings are subject to various constraints imposed under the Credit Facility, based on the aggregate loan balance pledged by Business Loan, which varies as loans are added and repaid, regardless of whether such repayments are prepayments or made as contractually required.
The administrative agent also requires that any interest or principal payments on pledged loans be remitted directly by the borrower into a lockbox account with Keybank as custodian. Keybank, who also serves as the trustee of the account, generally remits the collected funds to the Company once a month.
The Credit Facility contains covenants that require Business Loan to maintain its status as a separate legal entity, prohibit certain significant corporate transactions (such as mergers, consolidations, liquidations or dissolutions), and restrict material changes to the Company’s credit and collection policies. The Credit Facility also limits payments on distributions to the aggregate net investment income for each of the twelve month periods ended September 30, 2011 and 2010. Business Loan is also subject to certain limitations on the type of loan investments it can apply toward availability credit in the borrowing base, including restrictions on geographic concentrations, sector concentrations, loan size, dividend payout, payment frequency and status, average life and lien property. The Credit Facility further requires Business Loan to comply with other financial and operational covenants, which obligate Business Loan to, among other things, maintain certain financial ratios, including asset and interest coverage and a minimum number of obligors required in the borrowing base of the credit agreement. Additionally, the Company is subject to a performance guaranty that requires it to maintain (i) a minimum net of $200.0 million plus 50.0% of all equity and subordinated debt raised after May 15, 2009, (ii) “asset coverage” with respect to “senior securities representing indebtedness” of at least 200%, in accordance with Section 18 of the 1940 Act and (iii) its status as a BDC under the 1940 Act and as a RIC under the Code. The facility requires a minimum of 20 obligors in the borrowing base and as of September 30, 2011, Business Loan had 42 obligors. As of September 30, 2011, the Company was in compliance with all of the facility covenants.
Fair Value
The Company elected to apply ASC 825, “Financial Instruments,” specifically for the Credit Facility, which was consistent with its application of ASC 820 to its investments. The Company estimates the fair value of the Credit Facility using estimates of value provided by an independent third party and its own assumptions in the absence of observable market data, including estimated remaining life, credit party risk, current market yield and interest rate spreads of similar securities as of the measurement date. As of September 30, 2011 and 2010, all of the Company’s borrowings were valued using Level 3 inputs.
The following tables present the Credit Facility carried at fair value as of September 30, 2011 and 2010, by caption on the accompanying Consolidated Statements of Assets and Liabilities for Level 3 of the hierarchy established by ASC 820 and a roll-forward in the changes in fair value of the Credit Facility during the years ended September 30, 2011 and 2010:
| Level 3 –Borrowings under Credit Facility | ||||||||
| Total Fair Value Reported in | ||||||||
| Consolidated Statements of Assets and Liabilities | ||||||||
| As of September 30, | ||||||||
| 2011 | 2010 | |||||||
| Credit Facility |
$ | 100,012 | $ | 17,940 | ||||
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Total Fair value Reported in Consolidated Statements of Assets and Liabilities
| Years Ended September 30, | ||||||||
| 2011 | 2010 | |||||||
| Fair value as of September 30, 2010 and 2009, respectively |
$ | 17,940 | $ | 83,350 | ||||
| Net unrealized (depreciation) appreciation(A) |
(528 | ) | 790 | |||||
| Borrowings |
120,100 | 24,900 | ||||||
| Repayments |
(37,500 | ) | (91,100 | ) | ||||
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| Fair value as of September 30, 2011 and 2010, respectively |
$ | 100,012 | $ | 17,940 | ||||
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| (A) | Included in cumulative net unrealized appreciation on borrowings on the accompanying Consolidated Statements of Assets and Liabilities for the year ended September 30, 2011 and 2010. |
The fair value of the collateral under the Credit Facility was approximately $256.9 million and $212.6 million at September 30, 2011 and 2010, respectively.
NOTE 6. INTEREST RATE CAP AGREEMENT
Pursuant to its previous revolving credit facility, the Company had an interest rate cap agreement, with an initial notional amount of $35.0 million at a cost of $0.3 million that effectively limited the interest rate on a portion of the borrowings under the line of credit. The interest rate cap agreement expired in February 2009.
The Company recorded changes in the fair market value of the interest rate cap agreement monthly based on the current market valuation at month end as unrealized depreciation or appreciation on derivative on the Company’s Consolidated Statement of Operations. The agreement provided that the Company’s floating interest rate or cost of funds on a portion of the portfolio’s borrowings would be capped at 5% when the LIBOR was in excess of 5%. During the year ended September 30, 2009, the Company recorded $0.3 million of loss from the interest rate cap agreement, recorded as a realized loss on the settlement of derivative on the Company’s Consolidated Statement of Operations.
NOTE 7. COMMON STOCK TRANSACTIONS
On October 20, 2009, the Company filed a registration statement on Form N-2 (File No. 333-162592) that was amended on December 9, 2009 and which the Securities and Exchange Commission (“SEC”) declared effective on January 28, 2010, and the Company filed post-effective amendments to such registration statement on April 7, 2011, June 15, 2011, and July 13, 2011, which were declared effective by the SEC on July 15, 2011. Such registration statement permits the Company to issue, through one or more transactions, up to an aggregate of $300.0 million in securities, consisting of common stock, preferred stock, subscription rights, debt securities and warrants to purchase common stock, including through a combined offering of such securities.
On May 17, 2010, the Company and the Adviser entered into an equity distribution agreement (the “Agreement”) with BB&T Capital Markets, a division of Scott & Stringfellow, LLC (the “Agent”), under which the Company may, from time to time, issue and sell through the Agent, as sales agent, up to 2.0 million shares (the “Shares”) of the Company’s common stock, par value $0.001 per share, based upon instructions from the Company (including, at a minimum, the number of shares to be offered, the time period during which sales are requested to be made, any limitation on the number of shares that may be sold in any one day and any minimum price below which sales may not be made). Sales of Shares through the Agent, if any, will be executed by means of either ordinary brokers’ transactions on the NASDAQ Global Select Market in accordance with Rule 153 under the Securities Act of 1933, as amended, or such other sales of the Shares as shall be agreed by the
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Company and the Agent. The compensation payable to the Agent for sales of Shares with respect to which the Agent acts as sales agent shall be equal to 2.0% of the gross sales price of the Shares for amounts of Shares sold pursuant to the Agreement. To date, the Company has not issued any shares pursuant to this Agreement.
The following table is a summary of all outstanding notes issued to employees of the Adviser for the exercise of stock options:
| Issue Date |
Number of Options Exercised |
Strike Price of Options Exercised |
Amount of Promissory Note Issued to Employees |
Outstanding Balance of Employee Loans at 9/30/11 |
Maturity Date |
Interest Rate on Note |
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| Aug-01 | 393,334 | 15.00 | $ | 5,900 | (A) | $ | 2,749 | Aug-10 | 4.90 | % (B) | ||||||||||||||
| Aug-01 | 18,334 | 15.00 | 275 | (A) | 200 | Aug-10 | 4.90 | (B) | ||||||||||||||||
| Aug-01 | 18,334 | 15.00 | 275 | 236 | Aug-11 | 4.90 | (C) | |||||||||||||||||
| Sep-04 | 13,332 | 15.00 | 200 | 198 | Sep-13 | 5.00 | ||||||||||||||||||
| Jul-06 | 13,332 | 15.00 | 200 | 200 | Jul-15 | 8.26 | ||||||||||||||||||
| Jul-06 | 18,334 | 15.00 | 275 | 275 | Jul-15 | 8.26 | ||||||||||||||||||
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| 475,000 | $ | 7,125 | $ | 3,858 | ||||||||||||||||||||
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| (A) | On September 7, 2010, the Company entered into redemption agreements (the “Redemption Agreements”) with David Gladstone, the Company’s Chairman and Chief Executive Officer, and Laura Gladstone, the daughter of Mr. Gladstone, in connection with the maturity of secured promissory notes executed by Mr. Gladstone and Ms. Gladstone in favor of the Company on August 23, 2001, in the principal amounts of $5.9 million and $0.3 million, respectively (collectively, the “Notes”). Mr. and Ms. Gladstone executed the Notes in payment of the exercise price of certain stock options (the “Options”) to acquire shares of the Company’s common stock. Concurrently with the execution of the Notes, the Company and Mr. and Ms. Gladstone entered into stock pledge agreements (collectively, the “Pledge Agreements”), pursuant to which Mr. and Ms. Gladstone granted to the Company a first priority security interest in the Pledged Collateral (as defined in the respective Pledge Agreements), which included 393,334 and 18,334 shares, respectively, of the Company’s common stock that Mr. and Ms. Gladstone acquired pursuant to the exercise of the Options (collectively, the “Pledged Shares”). An event of default was triggered under the Notes by virtue of Mr. and Ms. Gladstone’s failure to repay the amounts outstanding under the Notes within five business days of August 23, 2010. The Redemption Agreements provide that, pursuant to the terms and conditions thereof, the Company will automatically accept and retire the Pledged Shares in partial or full satisfaction, as applicable, of Mr. and Ms. Gladstone’s obligations to the Company under the Notes at such time, if ever, that the trading price of the Company’s common stock reaches $15 per share. In entering into the Redemption Agreements, the Company reserved all of its existing rights under the Notes and the Pledge Agreements, including, but not limited to, the ability to foreclose on the Pledged Collateral at any time. On March 30, 2011 , June 27, 2011 and September 26, 2011, Mr. Gladstone paid down in the aggregate $3.2 million of the principal balance of his Note, leaving a principal balance of $2.7 million outstanding as of September 30, 2011. In connection with these payments, the Company released its first priority security interest on 210,000 shares of Mr. Gladstone’s Pledged Shares, leaving a balance of 183,334 shares in Pledged Collateral from Mr. Gladstone as of September 30, 2011. On September 28, 2011, Ms. Gladstone paid down $0.1 million of the principal balance of her 2001 Note, leaving a principal balance of $0.2 million outstanding on this Note as of September 30, 2011. The principal balances under her 2006 Notes remain unchanged at an aggregate balance of $0.5 million as of September 30, 2011. |
| (B) | An event of default was triggered under these Notes by virtue of Mr. and Ms. Gladstone’s failure to repay the amounts outstanding within five business days of August 23, 2010. As such, the Company charges a default rate of an additional 2% per annum under these Notes for all periods following default. |
| (C) | An event of default was triggered under the Note by virtue of an employee’s failure to repay the amounts outstanding within five business days of August 23, 2011. As such, the Company charges a default rate of an additional 2% per annum under the Note for all periods following default. |
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In accordance with ASC 505, “Equity,” receivables from employees for the issuance of capital stock to employees prior to the receipt of cash payment should be reflected in the balance sheet as a reduction to stockholders’ equity. Therefore, these recourse notes were recorded as loans to employees and are included in the equity section of the accompanying Consolidated Statements of Assets and Liabilities. As of September 30, 2011, the Company determined that these notes were still recourse.
NOTE 8. NET (DECREASE) INCREASE IN NET ASSETS RESULTING FROM OPERATIONS PER SHARE
The following table sets forth the computation of basic and diluted net (decrease) increase in net assets resulting from operations per share for the fiscal years ended September 30, 2011, 2010 and 2009:
| Year Ended September 30, | ||||||||||||
| 2011 | 2010 | 2009 | ||||||||||
| Numerator for basic and diluted net (decrease) increase in net assets resulting from operations per share |
$ | (21,099 | ) | $ | 16,394 | $ | 3,783 | |||||
| Denominator for basic and diluted shares |
21,039,242 | 21,060,351 | 21,087,574 | |||||||||
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| Basic and diluted net (decrease) increase in net assets resulting from operations per common share |
$ | (1.00 | ) | $ | 0.78 | $ | 0.18 | |||||
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NOTE 9. DISTRIBUTIONS
Distributions
The Company is required to pay out as a distribution 90% of its ordinary income and short-term capital gains for each taxable year in order to maintain its status as a RIC under Subtitle A, Chapter 1 of Subchapter M of the Code. It is the policy of the Company to pay out as a distribution up to 100% of those amounts. The amount to be paid out as a distribution is determined by the Board of Directors each quarter and is based on the annual earnings estimated by the management of the Company. Based on that estimate, three monthly distributions are declared each quarter. At year-end the Company may pay a bonus distribution, in addition to the monthly distributions, to ensure that it has paid out at least 90% of its ordinary income and realized net short-term capital gains for the year. Long-term capital gains are composed of prepayment fees and gains from the sale of securities held for one year or more. Additionally, success fees, prior to January 1, 2011, were treated as long-term capital gains. Starting January 1, 2011, the tax characterization of the success fee amount was and will be treated as ordinary income. The approved change in accounting method does not require the Company to retroactively change the capital gains treatment of the success fees received prior to January 1, 2011. As a result, the Company will be required to distribute such amounts to its stockholders in order to maintain RIC status for success fees the Company receives after January 1, 2011.
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The Company may decide to retain long-term capital gains from the sale of securities, if any, and not pay them out as distributions, however, the Board of Directors may decide to declare and pay out capital gains during any fiscal year. If the Company decides to retain long-term capital gains, the portion of the retained capital gains will be subject to a 35% tax. The tax characteristics of all distributions will be reported to stockholders on Form 1099 at the end of each calendar year. The following table lists the per share distributions paid for the fiscal years ended September 30, 2011 and 2010:
| Fiscal Year |
Declaration Date |
Record Date |
Payment Date |
Distribution per Share |
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| 2011 | October 5, 2010 | October 21, 2010 | October 29, 2010 | $ | 0.07 | |||||
| October 5, 2010 | November 19, 2010 | November 30, 2010 | 0.07 | |||||||
| October 5, 2010 | December 23, 2010 | December 31, 2010 | 0.07 | |||||||
| January 11, 2011 | January 21, 2011 | January 31, 2011 | 0.07 | |||||||
| January 11, 2011 | February 21, 2011 | February 28, 2011 | 0.07 | |||||||
| January 11, 2011 | March 21, 2011 | March 31, 2011 | 0.07 | |||||||
| April 12, 2011 | April 22, 2011 | April 29, 2011 | 0.07 | |||||||
| April 12, 2011 | May 20, 2011 | May 31, 2011 | 0.07 | |||||||
| April 12, 2011 | June 20, 2011 | June 30, 2011 | 0.07 | |||||||
| July 12, 2011 | July 22, 2011 | July 29, 2011 | 0.07 | |||||||
| July 12, 2011 | August 19, 2011 | August 31, 2011 | 0.07 | |||||||
| July 12, 2011 | September 22, 2011 | September 30, 2011 | 0.07 | |||||||
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| Annual Total: | $ | 0.84 | ||||||||
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| 2010 | October 6, 2009 | October 22, 2009 | October 30, 2009 | $ | 0.07 | |||||
| October 6, 2009 | November 19, 2009 | November 30, 2009 | 0.07 | |||||||
| October 6, 2009 | December 22, 2009 | December 31, 2009 | 0.07 | |||||||
| January 12, 2010 | January 21, 2010 | January 29, 2010 | 0.07 | |||||||
| January 12, 2010 | February 18, 2010 | February 26, 2010 | 0.07 | |||||||
| January 12, 2010 | March 23, 2010 | March 31, 2010 | 0.07 | |||||||
| April 7, 2010 | April 22, 2010 | April 30, 2010 | 0.07 | |||||||
| April 7, 2010 | May 20, 2010 | May 28, 2010 | 0.07 | |||||||
| April 7, 2010 | June 22, 2010 | June 30, 2010 | 0.07 | |||||||
| July 7, 2010 | July 22, 2010 | July 30, 2010 | 0.07 | |||||||
| July 7, 2010 | August 23, 2010 | August 31, 2010 | 0.07 | |||||||
| July 7, 2010 | September 22, 2010 | September 30, 2010 | 0.07 | |||||||
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| Annual Total: |
$ | 0.84 | ||||||||
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Aggregate distributions declared and paid for the 2011 and 2010 fiscal years were both approximately $17.7 million, which were declared based on an estimate of net investment income for each fiscal year.
Distribution of Income and Gains
Net investment income of the Company is declared and distributed to stockholders monthly. Net realized gains from investment transactions, in excess of available capital loss carryforwards, would be taxable to the Company if not distributed, and, therefore, generally will be distributed at least annually.
The timing and characterization of certain income and capital gains distributions are determined annually in accordance with federal tax regulations which may differ from GAAP. These differences primarily relate to items recognized as income for financial statement purposes and realized gains for tax purposes. As a result, net investment income and net realized gain (loss) on investment transactions for a reporting period may differ significantly from distributions during such period. Accordingly, the Company may periodically make
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reclassifications among certain of its capital accounts without impacting the net asset value of the Company. Additionally, the following tables also include these adjustments for the years ended September 30, 2011 and 2010, respectively.
The Company’s components of net assets on a tax-basis were as follows:
| Year Ended September 30, | ||||||||
| 2011 | 2010 | |||||||
| Common stock |
$ | 21 | $ | 21 | ||||
| Paid in capital |
326,913 | 326,935 | ||||||
| Notes receivable – employees |
(3,858 | ) | (7,103 | ) | ||||
| Net unrealized depreciation on investments |
(80,104 | ) | (41,800 | ) | ||||
| Net unrealized appreciation on borrowings |
(612 | ) | (1,140 | ) | ||||
| Underdistributed ordinary income |
679 | — | ||||||
| Capital loss carryforward |
(27,255 | ) | (26,354 | ) | ||||
| Post-October tax loss |
(1,649 | ) | (901 | ) | ||||
| Other temporary differences |
(414 | ) | (412 | ) | ||||
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| Net Assets |
$ | 213,721 | $ | 249,246 | ||||
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The Company intends to retain realized gains to the extent of available capital loss carryforwards. As of September 30, 2011 the Company had $26.4 million and $0.9 million of capital loss carryforwards that expire in 2018 and 2019, respectively.
For the years ended September 30, 2011 and 2010, the Company recorded the following adjustments to reflect tax character. Reclassifications between income and gains primarily relate to the character of prepayment and success fees and accrued interest written off for GAAP purposes.
| Year Ended September 30, | ||||||||
| 2011 | 2010 | |||||||
| Overdistributed net investment income |
$ | 472 | $ | (1,172 | ) | |||
| Accumulated Net Realized Losses |
(450 | ) | 1,992 | |||||
| Paid-in-capital |
(22 | ) | (820 | ) | ||||
The tax character of distributions paid to stockholders by the Company is summarized as follows:
| Year Ended September 30, | ||||||||||||
| 2011 | 2010 | 2009 | ||||||||||
| Distributions from: |
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| Ordinary Income |
$ | 17,672 | $ | 16,907 | $ | 20,795 | ||||||
| Long Term Capital Gains |
— | — | 27 | |||||||||
| Return of Capital |
— | 783 | 5,748 | |||||||||
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| Total Distributions |
$ | 17,672 | $ | 17,690 | $ | 26,570 | ||||||
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NOTE 10. FEDERAL AND STATE INCOME TAXES
The Company intends to continue to qualify for treatment as a RIC under subchapter M of the Code. As a RIC, the Company will not be subject to federal income tax on the portion of its taxable income and gains distributed to stockholders. To qualify as a RIC, the Company is required to distribute at least 90% of its investment company taxable income, as defined by the Code. The Company intends to distribute a minimum of 90% of its ordinary income, and, as a result, no income tax provisions have been recorded. The Company may, but does not intend to, pay out a return of capital. The Company may also be subject to federal excise tax if it does not
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distribute at least 98% of its ordinary income in any calendar year and 98% of its capital gain net income in any calendar year. Under the RIC Modernization Act, for excise tax years beginning January 1, 2011, the minimum distribution requirement for capital gains income has been raised to 98.2%. The Company must also meet the asset diversification threshold under the Code’s rules applicable to a RIC.
Additionally, under the RIC Act, the Company will be permitted to carry forward capital losses incurred in taxable years beginning after September 30, 2011, for an unlimited period. However, any losses incurred during those future taxable years will be required to be utilized prior to the losses incurred in pre-enactment taxable years, which carry an expiration date. As a result of this ordering rule, pre-enactment capital loss carryforwards may be more likely to expire unused. Additionally, post-enactment capital loss carryforwards will retain their character as either short-term or long-term capital losses rather than being considered all short-term as permitted under the previous regulation.
NOTE 11. COMMITMENTS AND CONTINGENCIES
Legal Proceedings
The Company is party to certain legal proceedings incidental to the normal course of its business, including the enforcement of the Company’s rights under contracts with its portfolio companies. The Company is required to establish reserves for litigation matters where those matters present loss contingencies that are both probable and estimable. When loss contingencies are not both probable and estimable, the Company do not establish reserves. Based on current knowledge, the Company does not believe that loss contingencies, if any, arising from pending investigations, litigation or regulatory matters will have a material adverse effect on the Company’s financial condition or results of operation.
Financial Commitments and Obligations
At September 30, 2011, the Company was not party to any signed commitments for potential investments. However, the Company has certain lines of credit and capital commitments with its portfolio companies that have not been fully drawn or called, respectively, as of September 30, 2011 and 2010. Since these commitments have expiration dates and the Company expects many will never be fully drawn or called, the total commitment amounts do not necessarily represent future cash requirements.
In addition to the lines of credit and capital commitments with portfolio companies, the Company also extends certain guaranties on behalf of some of its portfolio companies during the normal course of business. In July 2009, the Company executed a guaranty (the “Guaranty”) of a line of credit agreement between Comerica Bank and Defiance Integrated Technologies, Inc. (“Defiance”), one of its Control investments. Pursuant to the Guaranty, if Defiance had a payment default, the Guaranty was callable once the bank reduced its claim by using commercially reasonable efforts to collect through disposition of the Defiance collateral. The Guaranty was limited to $0.3 million plus interest on that amount accrued from the date demand payment was made under the Guaranty, and all costs incurred by the bank in its collection efforts. On March 1, 2011, the Company and Comerica Bank terminated the Guaranty.
The Company estimated the fair value of its unused line of credit and uncalled capital commitments as of September 30, 2011 and 2010 to be minimal; and therefore, they are not recorded on the accompanying Consolidated Statements of Assets and Liabilities. As of September 30, 2011, there were no outstanding guaranties.
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The following table summarizes the notional dollar balances of unused line of credit commitments, uncalled capital commitments and guaranties as of September 30, 2011 and 2010:
| As of September 30, | ||||||||
| 2011 | 2010 | |||||||
| Unused line of credit commitments |
$ | 12,990 | $ | 9,304 | ||||
| Uncalled capital commitment |
800 | 1,600 | ||||||
| Guaranties |
— | 250 | ||||||
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| Total |
$ | 13,790 | $ | 11,154 | ||||
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The following table shows the Company’s contractual obligations as of September 30, 2011:
| Payments Due by Period | ||||||||||||||||||||
| Contractual Obligations(A) |
Less than 1 Year |
1-3 Years | 4-5 Years | After 5 Years | Total | |||||||||||||||
| Credit Facility(B) |
$ | 99,400 | $ | — | $ | — | $ | — | $ | 99,400 | ||||||||||
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| (A) | Excludes the unused or uncalled commitments to extend credit or capital to the Company’s portfolio companies for an aggregate amount of $13.8 million, as discussed above. |
| (B) | Principal balance of borrowings under the Credit Facility, based on the contractual maturity due to the revolving nature of the facility. |
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NOTE 12. FINANCIAL HIGHLIGHTS
| Year Ended September 30, | ||||||||||||||||||||
| 2011 | 2010 | 2009 | 2008 | 2007 | ||||||||||||||||
| Per Share Data (A) |
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| Net asset value at beginning of period |
$ | 11.85 | $ | 11.81 | $ | 12.89 | $ | 14.97 | $ | 14.02 | ||||||||||
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| Income from investment operations (B) |
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| Net investment income |
0.88 | 0.84 | 1.00 | 1.35 | 1.69 | |||||||||||||||
| Net realized loss on the sale of investments |
(0.06 | ) | (0.14 | ) | (1.25 | ) | (0.04 | ) | — | |||||||||||
| Realized loss on settlement of derivative |
— | — | (0.01 | ) | — | — | ||||||||||||||
| Net unrealized appreciation on derivative |
— | — | 0.01 | — | — | |||||||||||||||
| Net unrealized (depreciation) appreciation on investments |
(1.84 | ) | 0.11 | 0.45 | (2.39 | ) | (0.56 | ) | ||||||||||||
| Net unrealized appreciation (depreciation) on borrowings |
0.02 | (0.03 | ) | (0.02 | ) | — | — | |||||||||||||
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|
|
|
|
|||||||||||
| Total from investment operations |
(1.00 | ) | 0.78 | 0.18 | (1.08 | ) | 1.13 | |||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|||||||||||
| Distributions to stockholders from (B)(C) |
||||||||||||||||||||
| Taxable ordinary income |
(0.84 | ) | (0.80 | ) | (0.99 | ) | (1.31 | ) | (1.48 | ) | ||||||||||
| Long term capital gains |
— | — | — | (0.01 | ) | — | ||||||||||||||
| Return on capital |
— | (0.04 | ) | (0.27 | ) | (0.36 | ) | (0.20 | ) | |||||||||||
|
|
|
|
|
|
|
|
|
|
|
|||||||||||
| Total distributions |
(0.84 | ) | (0.84 | ) | (1.26 | ) | (1.68 | ) | (1.68 | ) | ||||||||||
|
|
|
|
|
|
|
|
|
|
|
|||||||||||
| Capital share transactions |
||||||||||||||||||||
| Issuance of common stock under shelf offering |
— | — | — | 0.72 | 1.55 | |||||||||||||||
| Offering costs |
— | — | — | (0.04 | ) | (0.05 | ) | |||||||||||||
| Repayment of principal on notes receivable |
0.15 | 0.07 | — | — | 0.06 | |||||||||||||||
| Conversion of recourse to non-recourse notes |
— | (0.02 | ) | — | — | — | ||||||||||||||
| Reclassification of principal on employee note |
— | 0.02 | — | — | — | |||||||||||||||
| Stock surrendered to settle withholding tax obligation |
— | — | — | — | (0.06 | ) | ||||||||||||||
| Anti-dilutive effect of common stock reduction |
— | 0.03 | — | — | — | |||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|||||||||||
| Total from capital share transactions |
0.15 | 0.10 | — | 0.68 | 1.50 | |||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|||||||||||
| Net asset value at end of period |
$ | 10.16 | $ | 11.85 | $ | 11.81 | $ | 12.89 | $ | 14.97 | ||||||||||
|
|
|
|
|
|
|
|
|
|
|
|||||||||||
| Per share market value at beginning of period |
$ | 11.27 | $ | 8.93 | $ | 15.24 | $ | 19.52 | $ | 22.01 | ||||||||||
| Per share market value at end of period |
6.86 | 11.27 | 8.93 | 15.24 | 19.52 | |||||||||||||||
| Total return (D) |
(33.77 | )% | 37.46 | % | (30.94 | )% | (13.90 | )% | (4.40 | )% | ||||||||||
| Common stock outstanding at end of period |
21,039,242 | 21,039,242 | 21,087,574 | 21,087,574 | 14,762,574 | |||||||||||||||
F-47
Table of Contents
| Year Ended September 30, | ||||||||||||||||||||
| 2011 | 2010 | 2009 | 2008 | 2007 | ||||||||||||||||
| Statement of Assets and Liabilities Data |
||||||||||||||||||||
| Net assets at end of period |
$ | 213,721 | $ | 249,246 | $ | 249,076 | $ | 271,748 | $ | 220,959 | ||||||||||
| Average net assets(E) |
235,901 | 249,968 | 253,316 | 284,304 | 189,732 | |||||||||||||||
| Senior Securities Data |
||||||||||||||||||||
| Borrowing, at fair value |
$ | 100,012 | $ | 17,940 | $ | 83,350 | $ | 151,030 | $ | 144,440 | ||||||||||
| Asset coverage ratio (F)(G) |
314 | % | 1,419 | % | 396 | % | 279 | % | 252 | % | ||||||||||
| Average coverage per unit (G) |
$ | 3,144 | $ | 14,187 | $ | 3,963 | $ | 2,792 | $ | 2,524 | ||||||||||
| Ratios/Supplemental Data |
||||||||||||||||||||
| Ratio of expenses to average net assets (H) |
7.39 | % | 7.28 | % | 9.97 | % | 9.34 | % | 10.75 | % | ||||||||||
| Ratio of net expenses to average net assets (I) |
7.12 | 7.11 | 8.52 | 6.74 | 7.60 | |||||||||||||||
| Ratio of net investment income to average net assets |
7.81 | 7.10 | 8.30 | 9.34 | 11.73 | |||||||||||||||
| (A) | Based on actual shares outstanding at the end of the corresponding period. |
| (B) | Based on weighted average basic per share data. |
| (C) | Distributions are determined based on taxable income calculated in accordance with income tax regulations which may differ from amounts determined under U.S. GAAP. |
| (D) | Total return equals the change in the ending market value of the Company’s common stock from the beginning of the period taking into account distributions reinvested in accordance with the terms of the Company’s distribution reinvestment plan. Total return does not take into account distributions that may be characterized as a return of capital. For further information on the estimated character of the Company’s distributions please refer to Note 9. |
| (E) | Average net assets are computed using the average of the balance of net assets at the end of each month of the reporting period. |
| (F) | As a BDC, the Company is generally required to maintain a ratio of at least 200% of total consolidated assets, less all liabilities and indebtedness not represented by senior securities, to total borrowings and guaranty commitments. |
| (G) | Asset coverage ratio is the ratio of the carrying value of the Company’s total consolidated assets, less all liabilities and indebtedness not represented by senior securities, to the aggregate amount of senior securities representing indebtedness (including interest payable and guaranties). Asset coverage per unit is the asset coverage ratio expressed in terms of dollar amounts per one thousand dollars of indebtedness. |
| (H) | Ratio of expenses to average net assets is computed using expenses before credits from Adviser to the base management and incentive fees and including income tax expense. |
| (I) | Ratio of net expenses to average net assets is computed using total expenses net of credits from Adviser to the base management and incentive fees and including income tax expense. |
NOTE 13. SELECTED QUARTERLY DATA (UNAUDITED)
| Year Ended September 30, 2011 | ||||||||||||||||
| Quarter Ended December 31, 2010 |
Quarter Ended March 31, 2011 |
Quarter Ended June 30, 2011 |
Quarter Ended September 30, 2011 |
|||||||||||||
| Total Investment Income |
$ | 8,006 | $ | 8,398 | $ | 8,980 | $ | 9,827 | ||||||||
| Net Investment Income |
4,637 | 4,428 | 4,534 | 4,813 | ||||||||||||
| Net Increase (Decrease) in Net Assets Resulting From Operations |
2,132 | (8,381 | ) | (14,310 | ) | (540 | ) | |||||||||
| Net Increase (Decrease) in Net Assets Resulting From Operations per Weighted Average Common Share (Basic and Diluted) |
$ | 0.10 | $ | (0.40 | ) | $ | (0.68 | ) | $ | (0.03 | ) | |||||
F-48
Table of Contents
| Year Ended September 30, 2010 | ||||||||||||||||
| Quarter Ended December 31, 2009 |
Quarter Ended March 31, 2010 |
Quarter Ended June 30, 2010 |
Quarter Ended September 30, 2010 |
|||||||||||||
| Total Investment Income |
$ | 9,804 | $ | 9,814 | $ | 7,969 | $ | 7,952 | ||||||||
| Net Investment Income |
4,428 | 4,474 | 4,429 | 4,428 | ||||||||||||
| Net Increase (Decrease) in Net Assets Resulting From Operations |
6,326 | 7,980 | (1,748 | ) | 3,836 | |||||||||||
| Net Increase (Decrease) in Net Assets Resulting From Operations per Weighted Average Common Share (Basic and Diluted) |
$ | 0.30 | $ | 0.38 | $ | (0.08 | ) | $ | 0.18 | |||||||
NOTE 14. SUBSEQUENT EVENTS
Portfolio Activity
Subsequent to September 30, 2011, the Company extended $3.6 million in revolver draws and investments. The Company also had $3.9 million in scheduled and unscheduled loan repayments. Of significance, in November 2011, the Company invested $1.6 million in Ohana Media Group (“Ohana”) in order for it to purchase certain of KMBQ Corporation’s (“KMBQ”) assets out of receivership. In connection with this transaction, the Company recorded a partial realized loss in the quarter ending December 31, 2011. Ohana replaces KMBQ on the Company’s Schedule of Investments as a Non-Control/Non-Affiliate portfolio Company in the quarter ending December 31, 2011.
Distributions
On October 11, 2011, the Company’s Board of Directors declared the following monthly cash distributions to stockholders:
| Record Date |
Payment Date | Distribution per Share |
||||
| October 21, 2011 |
October 31, 2011 | $ | 0.07 | |||
| November 17, 2011 |
November 30, 2011 | $ | 0.07 | |||
| December 21, 2011 |
December 30, 2011 | $ | 0.07 | |||
Preferred Stock Offering
On October 31, 2011, the Company filed a Prospectus Supplement (to Prospectus dated July 15, 2011) with the SEC pursuant to Rule 497 under the Securities Act of 1933, as amended, which contains a description of the offering of 7.125% Series 2016 Term Preferred Stock (“Term Preferred Stock”), par value $0.001 per share of the Company. Under this Prospectus Supplement, the Company can issue up to 1.4 million of Term Preferred Stock at an offering price of $25.00 per share. The shares will have a redemption date of December 31, 2016 with an overallotment option of 15% and will be traded under the ticker symbol of GLADPRA on the New York Stock Exchange. The Term Preferred Stock will not be convertible into the Company’s common stock or any other security of the Company. At the time of issuance, any term preferred stock, including the Term Preferred Stock, will be fully paid and non-assessable and will have no preemptive, conversion, or exchange rights or rights to cumulative voting. The Term Preferred Stock will rank equally with shares of all of the Company’s other preferred stock that might be issued in the future, as to payment of dividends and the distribution of the Company’s assets upon dissolution, liquidation or winding up of affairs. The Term Preferred Stock is, and all other preferred stock that the Company may issue in the future will be, senior as to dividends and distributions to the Company’s Common Stock. The Company may issue additional series of term preferred stock or other preferred stock in the future. Monthly dividends will be paid on the Term Preferred Stock at an annual rate of 7.125% of the $25.00 liquidation preference per share, or $1.7813 per Term Preferred Stock per year,
F-49
Table of Contents
commencing on December 30, 2011. As of October 31, 2011, the Company had incurred $1.9 million in offering costs in relation to this transaction. On November 4, 2011, the Company completed the offering of its Term Preferred Stock for gross proceeds of $35.0 million. Net proceeds of the offering, after deducting underwriting discounts and estimated offering expenses borne by the Company, were approximately $33.0 million and were used to repay a portion of outstanding borrowings under the Credit Facility. In connection with the offering, the Company also granted the underwriters an option, exercisable on or before November 27, 2011, to purchase an additional 210,000 shares of Term Preferred Stock solely to cover over-allotments, if any. On November 14, 2011, the underwriters notified the Company of their intent to exercise their option to purchase an additional 139,882 shares of the Company’s Term Preferred Stock.
The Company is required to redeem all of the outstanding Term Preferred Stock on December 31, 2016 at a redemption price equal to $25.00 per share plus an amount equal to accumulated but unpaid dividends, if any, to the date of redemption. The Company cannot effect any amendment, alteration or repeal of its obligation to redeem all of the Term Preferred Stock on December 31, 2016 without the prior unanimous consent of the holders of Term Preferred Stock. If the Company fails to maintain an asset coverage ratio of at least 200% (as described in the Prospectus Supplement), it will redeem a portion of the outstanding Term Preferred Stock in an amount at least equal to the lesser of (1) the minimum number of shares of Term Preferred Stock necessary to cause the Company to meet its required asset coverage ratio and (2) the maximum number of Term Preferred Stock that the Company can redeem out of cash legally available for such redemption. At any time on or after December 31, 2012, at the Company’s sole option, it may redeem the Term Preferred Stock at a redemption price per share equal to the sum of the $25.00 liquidation preference per share plus (i) an initial premium of 1.00% of the liquidation preference (with such premium declining by 0.50% on the first and second anniversaries such that on December 31, 2014, no premium will be payable in connection with any such optional redemption) and (ii) an amount equal to accumulated but unpaid dividends, if any, on the Term Preferred Stock.
F-50
Table of Contents
CONDENSED CONSOLIDATED STATEMENTS OF ASSETS AND LIABILITIES
(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
(UNAUDITED)
| December 31, 2011 |
September 30, 2011 |
|||||||
| ASSETS |
||||||||
| Investments at fair value |
||||||||
| Non-Control/Non-Affiliate investments (Cost of $273,177 and $288,266, respectively) |
$ | 248,832 | $ | 257,302 | ||||
| Control investments (Cost of $97,293 and $94,549, respectively) |
44,014 | 45,645 | ||||||
|
|
|
|
|
|||||
| Total investments at fair value (Cost of $370,470 and $382,815, respectively) |
292,846 | 302,947 | ||||||
| Cash |
5,772 | 6,732 | ||||||
| Restricted cash |
1,225 | — | ||||||
| Interest receivable – investments in debt securities |
2,921 | 3,066 | ||||||
| Interest receivable – employees(A) |
13 | — | ||||||
| Due from custodian |
1,669 | 2,547 | ||||||
| Deferred financing fees |
2,261 | 650 | ||||||
| Prepaid assets |
825 | 996 | ||||||
| Other assets |
584 | 686 | ||||||
|
|
|
|
|
|||||
| TOTAL ASSETS |
$ | 308,116 | $ | 317,624 | ||||
|
|
|
|
|
|||||
| LIABILITIES |
||||||||
| Borrowings at fair value (Cost of $56,900 and $99,400, respectively) |
$ | 57,213 | $ | 100,012 | ||||
| Mandatorily redeemable preferred stock, $0.001 per share par value, $25 per share liquidation preference; 4,000,000 and no shares authorized; 1,539,882 and no shares issued and outstanding at December 31, 2011 and September 30, 2011, respectively |
38,497 | — | ||||||
| Accounts payable and accrued expenses |
524 | 513 | ||||||
| Interest payable |
205 | 289 | ||||||
| Fees due to Adviser(A) |
1,414 | 1,760 | ||||||
| Fee due to Administrator(A) |
195 | 194 | ||||||
| Other liabilities |
2,052 | 1,135 | ||||||
|
|
|
|
|
|||||
| TOTAL LIABILITIES |
$ | 100,100 | $ | 103,903 | ||||
|
|
|
|
|
|||||
| NET ASSETS |
$ | 208,016 | $ | 213,721 | ||||
|
|
|
|
|
|||||
| ANALYSIS OF NET ASSETS |
||||||||
| Common stock, $0.001 par value per share, 46,000,000 and 50,000,000 shares authorized; 21,019,242 and 21,039,242 shares issued and outstanding at December 31, 2011 and September 30, 2011, respectively |
$ | 21 | $ | 21 | ||||
| Capital in excess of par value |
326,756 | 326,913 | ||||||
| Notes receivable – employees(A) |
(3,699 | ) | (3,858 | ) | ||||
| Cumulative net unrealized depreciation on investments |
(77,624 | ) | (79,867 | ) | ||||
| Cumulative net unrealized appreciation on borrowings |
(313 | ) | (612 | ) | ||||
| Under distributed net investment income |
108 | 108 | ||||||
| Accumulated net realized losses |
(37,233 | ) | (28,984 | ) | ||||
|
|
|
|
|
|||||
| TOTAL NET ASSETS |
$ | 208,016 | $ | 213,721 | ||||
|
|
|
|
|
|||||
| NET ASSET VALUE PER COMMON SHARE AT END OF PERIOD |
$ | 9.90 | $ | 10.16 | ||||
|
|
|
|
|
|||||
| (A) | Refer to Note 4—Related Party Transactions for additional information. |
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.
F-51
Table of Contents
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
(UNAUDITED)
| Three Months Ended December 31, |
||||||||
| 2011 | 2010 | |||||||
| INVESTMENT INCOME |
||||||||
| Interest income |
||||||||
| Non-Control/Non-Affiliate investments |
$ | 7,889 | $ | 6,926 | ||||
| Control investments |
1,358 | 797 | ||||||
| Cash |
6 | — | ||||||
| Notes receivable from employees(A) |
67 | 122 | ||||||
|
|
|
|
|
|||||
| Total interest income |
9,320 | 7,845 | ||||||
| Other income |
||||||||
| Non-Control/Non-Affiliate investments |
— | 161 | ||||||
|
|
|
|
|
|||||
| Total other income |
— | 161 | ||||||
|
|
|
|
|
|||||
| Total investment income |
9,320 | 8,006 | ||||||
|
|
|
|
|
|||||
| EXPENSES |
||||||||
| Loan servicing fee(A) |
959 | 842 | ||||||
| Base management fee(A) |
597 | 505 | ||||||
| Incentive fee(A) |
1,035 | 1,159 | ||||||
| Administration fee(A) |
195 | 186 | ||||||
| Interest expense on borrowings |
1,139 | (120 | ) | |||||
| Dividend expense on mandatorily redeemable preferred stock |
434 | — | ||||||
| Amortization of deferred financing fees |
457 | 297 | ||||||
| Professional fees |
292 | 332 | ||||||
| Other expenses |
244 | 220 | ||||||
|
|
|
|
|
|||||
| Expenses before credits from Adviser |
5,352 | 3,421 | ||||||
| Credits to fees from Adviser(A) |
(450 | ) | (52 | ) | ||||
|
|
|
|
|
|||||
| Total expenses net of credits to fees |
4,902 | 3,369 | ||||||
|
|
|
|
|
|||||
| NET INVESTMENT INCOME |
4,418 | 4,637 | ||||||
|
|
|
|
|
|||||
| REALIZED AND UNREALIZED (LOSS) GAIN: |
||||||||
| Net realized loss on investments |
(8,249 | ) | — | |||||
| Net unrealized appreciation (depreciation) on investments |
2,243 | (2,944 | ) | |||||
| Net unrealized depreciation on borrowings |
299 | 439 | ||||||
|
|
|
|
|
|||||
| Net loss on investments and borrowings |
(5,707 | ) | (2,505 | ) | ||||
| NET (DECREASE) INCREASE IN NET ASSETS RESULTING FROM OPERATIONS |
$ | (1,289 | ) | $ | 2,132 | |||
|
|
|
|
|
|||||
| NET (DECREASE) INCREASE IN NET ASSETS RESULTING FROM OPERATIONS PER COMMON SHARE: |
||||||||
| Basic and Diluted |
$ | (0.06 | ) | $ | 0.10 | |||
|
|
|
|
|
|||||
| WEIGHTED AVERAGE SHARES OF COMMON STOCK OUTSTANDING: |
||||||||
| Basic and Diluted |
21,038,590 | 21,039,242 | ||||||
| (A) | Refer to Note 4—Related Party Transactions for additional information. |
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.
F-52
Table of Contents
CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN NET ASSETS
(DOLLAR AMOUNTS IN THOUSANDS)
(UNAUDITED)
| Three Months Ended December 31, | ||||||||
| 2011 | 2010 | |||||||
| Operations: |
||||||||
| Net investment income |
$ | 4,418 | $ | 4,637 | ||||
| Net realized loss on investments |
(8,249 | ) | — | |||||
| Net unrealized appreciation (depreciation) on investments |
2,243 | (2,944 | ) | |||||
| Net unrealized depreciation on borrowings |
299 | 439 | ||||||
|
|
|
|
|
|||||
| Net (decrease) increase in net assets resulting from operations |
(1,289 | ) | 2,132 | |||||
|
|
|
|
|
|||||
| Distributions: |
||||||||
| Distributions to common stockholders |
(4,418 | ) | (4,418 | ) | ||||
|
|
|
|
|
|||||
| Capital transactions: |
||||||||
| Stock redemption for repayment of principal on employee note |
(155 | ) | — | |||||
| Repayment of principal on employee notes |
158 | — | ||||||
|
|
|
|
|
|||||
| Net increase in net assets from capital transactions |
3 | — | ||||||
|
|
|
|
|
|||||
| Total decrease in net assets |
(5,704 | ) | (2,286 | ) | ||||
| Net assets at beginning of period |
213,720 | 249,246 | ||||||
|
|
|
|
|
|||||
| Net assets at end of period |
$ | 208,016 | $ | 246,960 | ||||
|
|
|
|
|
|||||
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.
F-53
Table of Contents
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT SHARE AMOUNTS)
(UNAUDITED)
| Three Months Ended December 31, | ||||||||
| 2011 | 2010 | |||||||
| CASH FLOWS FROM OPERATING ACTIVITIES |
||||||||
| Net (decrease) increase in net assets resulting from operations |
$ | (1,289 | ) | $ | 2,132 | |||
| Adjustments to reconcile net (decrease) increase in net assets resulting from operations to net cash provided by (used in) operating activities: |
||||||||
| Purchase of investments |
(11,251 | ) | (11,794 | ) | ||||
| Principal repayments on investments |
10,780 | 13,208 | ||||||
| Proceeds from sale of investments |
4,489 | 37 | ||||||
| Increase in investment balance due to paid-in-kind interest |
— | (4 | ) | |||||
| Net change in premiums, discounts and amortization |
(74 | ) | 213 | |||||
| Net realized loss on investments |
8,400 | — | ||||||
| Net unrealized (appreciation) depreciation on investments |
(2,243 | ) | 2,944 | |||||
| Net unrealized depreciation on borrowings |
(299 | ) | (439 | ) | ||||
| Increase in restricted cash |
(1,225 | ) | — | |||||
| Amortization of deferred financing fees |
457 | 297 | ||||||
| Decrease (increase) in interest receivable |
132 | (82 | ) | |||||
| Decrease (increase) in due from custodian |
877 | (10,509 | ) | |||||
| Decrease (increase) in prepaid assets |
171 | (15 | ) | |||||
| Decrease in other assets |
102 | 108 | ||||||
| Increase (decrease) in accounts payable and accrued expenses |
11 | (373 | ) | |||||
| Decrease in interest payable |
(84 | ) | (578 | ) | ||||
| (Decrease) increase in fees due to Adviser(A) |
(346 | ) | 1,143 | |||||
| Increase (decrease) in fee due to Administrator(A) |
1 | (81 | ) | |||||
| Increase (decrease) in other liabilities |
917 | (207 | ) | |||||
|
|
|
|
|
|||||
| Net cash provided by (used in) operating activities |
9,526 | (4,000 | ) | |||||
|
|
|
|
|
|||||
| CASH FLOWS FROM FINANCING ACTIVITIES |
||||||||
| Proceeds from borrowings |
11,000 | 10,000 | ||||||
| Repayments on borrowings |
(53,500 | ) | (2,200 | ) | ||||
| Proceeds from issuance of mandatorily redeemable preferred stock |
38,497 | — | ||||||
| Deferred financing fees |
(2,068 | ) | (682 | ) | ||||
| Distributions paid to common stockholders |
(4,418 | ) | (4,418 | ) | ||||
| Receipt of principal on employee notes |
3 | — | ||||||
|
|
|
|
|
|||||
| Net cash (used in) provided by financing activities |
(10,486 | ) | 2,700 | |||||
|
|
|
|
|
|||||
| NET DECREASE IN CASH |
(960 | ) | (1,300 | ) | ||||
| CASH, BEGINNING OF PERIOD |
6,732 | 7,734 | ||||||
|
|
|
|
|
|||||
| CASH, END OF PERIOD |
$ | 5,772 | $ | 6,434 | ||||
|
|
|
|
|
|||||
| NON-CASH ACTIVITIES(B) |
$ | 155 | $ | — | ||||
|
|
|
|
|
|||||
| (A) | Refer to Note 4—Related Party Transactions for additional information. |
| (B) | Redemption of 20,000 shares of common stock as consideration to reduce the principal balance of an employee loan by $155. Refer to Note 7—Common Stock for additional information. |
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.
F-54
Table of Contents
CONDENSED CONSOLIDATED SCHEDULE OF INVESTMENTS
AS OF DECEMBER 31, 2011
(DOLLAR AMOUNTS IN THOUSANDS)
(UNAUDITED)
| Company(A) |
Industry |
Investment(B) |
Principal | Cost | Fair Value | |||||||||||
| NON-CONTROL/NON-AFFILIATE INVESTMENTS |
|
|||||||||||||||
| Non-syndicated Loans: |
||||||||||||||||
| Access Television Network, Inc. |
Service-cable airtime (infomercials) | Senior Term Debt (14.0%, Due 2/2011) (D) (H) |
$ | 903 | $ | 903 | $ | 9 | ||||||||
| Allison Publications, LLC |
Service-publisher of consumer oriented Magazines | Senior Term Debt (10.5%, Due 9/2012) (D) |
8,314 | 8,325 | 7,763 | |||||||||||
| BAS Broadcasting |
Service-radio station operator | Senior Term Debt (11.5%, Due 7/2013) (D) |
7,465 | 7,465 | 5,226 | |||||||||||
| Chinese Yellow Pages Company |
Service-publisher of Chinese language directories | Line of Credit, $0 available (7.3%, Due 11/2012) (D) |
450 | 450 | 315 | |||||||||||
| Senior Term Debt (7.3%, Due 11/2012) (D) |
108 | 108 | 76 | |||||||||||||
| CMI Acquisition, LLC |
Service-recycling | Senior Subordinated Term Debt (13.5%, Due 12/2016) (D) |
14,265 | 14,265 | 14,354 | |||||||||||
| FedCap Partners, LLC |
Private equity fund | Class A Membership Units (80 units) (G) |
1,200 | 1,153 | ||||||||||||
| Uncalled Capital Commitment ($800) |
||||||||||||||||
| GFRC Holdings, LLC |
Manufacturing-glass-fiber reinforced concrete | Senior Term Debt (11.5%, Due 12/2012) (D) |
5,424 | 5,424 | 3,525 | |||||||||||
| Senior Subordinated Term Debt (14.0%, Due 12/2012) (D) |
6,598 | 6,598 | 4,289 | |||||||||||||
| Global Materials Technologies, Inc. |
Manufacturing-steel wool products and metal fibers | Senior Term Debt (13.0%, Due 6/2012) (C) (I) |
2,435 | 2,435 | 2,435 | |||||||||||
| Heartland Communications Group |
Service-radio station operator | Line of Credit, $43 available (5.0%, Due 3/2013) (D) |
57 | 57 | 22 | |||||||||||
| Line of Credit, $100 available (10.0%, Due 3/2013) (D) |
— | — | — | |||||||||||||
| Senior Term Debt (5.0%, Due 3/2013) (D) |
4,342 | 4,320 | 1,672 | |||||||||||||
| Common Stock Warrants (8.8% ownership) (F) (G) |
66 | — | ||||||||||||||
| International Junior Golf Training Acquisition Company |
Service-golf training | Line of Credit, $0 available (11.0%, Due 5/2012) (D) (J) |
1,500 | 1,500 | 1,088 | |||||||||||
| Senior Term Debt (10.5%, Due 5/2012) (D) (J) |
859 | 858 | 622 | |||||||||||||
| Senior Term Debt (12.5%, Due 5/2012) (C)(D) (J) |
2,500 | 2,500 | 1,813 | |||||||||||||
F-55
Table of Contents
GLADSTONE CAPITAL CORPORATION
CONDENSED CONSOLIDATED SCHEDULE OF INVESTMENTS (Continued)
AS OF DECEMBER 31, 2011
(DOLLAR AMOUNTS IN THOUSANDS)
(UNAUDITED)
| Company(A) |
Industry |
Investment(B) |
Principal | Cost | Fair Value | |||||||||||
| NON-CONTROL/NON-AFFILIATE INVESTMENTS (Continued): |
| |||||||||||||||
| Legend Communications of Wyoming, LLC |
Service-operator of radio stations | Senior Term Debt (16.0%, Due 6/2013) (D) |
9,474 | 9,474 | 4,737 | |||||||||||
| Senior Term Debt (18.0%, Due 7/2011) (D) |
220 | 220 | 110 | |||||||||||||
| North American Aircraft Services, LLC |
Service - repairs and maintains aircraft fuel tanks and fuel systems | Line of Credit, $750 available (6.5%, Due 8/2012) (D) |
1,250 | 1,250 | 1,225 | |||||||||||
| Senior Term Debt (7.5%, Due 8/2016) (D) |
5,017 | 5,017 | 4,917 | |||||||||||||
| Senior Subordinated Term Debt (11.8%, Due 8/2016) (D) |
4,750 | 4,750 | 4,655 | |||||||||||||
| Senior Subordinated Term Debt (12.5%, Due 8/2016) (D) |
2,820 | 2,820 | 2,764 | |||||||||||||
| Common Stock Warrants (5.8% ownership) (F) (G) |
350 | 420 | ||||||||||||||
| Northstar Broadband, LLC |
Service-cable TV franchise owner | Senior Term Debt (0.7%, Due 12/2012) (D) |
65 | 57 | 53 | |||||||||||
| Ohana Media Group |
Service – AM/FM radio broadcast | Senor Term Debt (10.0%, Due 10/2016) (D) |
1,590 | 1,590 | 1,439 | |||||||||||
| Precision Acquisition Group Holdings, Inc. |
Manufacturing-consumable components for the Aluminum industry | Equipment Note (13.0%, Due 3/2013) (D) |
1,000 | 1,000 | 887 | |||||||||||
| Senior Term Debt (13.0%, Due 3/2013) (D) |
4,125 | 4,125 | 3,661 | |||||||||||||
| Senior Term Debt (13.0%, Due 3/2013) (C) (D) |
4,053 | 4,053 | 3,597 | |||||||||||||
| PROFIT Systems Acquisition Co. |
Service-design and develop ERP Software | Line of Credit, $350 available (11.3%, Due 7/2012) (D) |
— | — | — | |||||||||||
| Senior Term Debt (10.5%, Due 7/2014) (C) (D) |
3,000 | 3,000 | 2,865 | |||||||||||||
| RCS Management Holding Co. |
Service-healthcare supplies | Senior Term Debt (9.5%, Due 1/2013) (D) |
1,312 | 1,312 | 1,221 | |||||||||||
| Senior Term Debt (11.5%, Due 1/2013) (C) (D) |
3,060 | 3,060 | 2,846 | |||||||||||||
| Reliable Biopharmaceutical Holdings, Inc. |
Manufacturing-pharmaceutical and biochemical intermediates | Line of Credit, $2,500 available (9.0%, Due 1/2013) (D) |
1,500 | 1,500 | 1,472 | |||||||||||
| Mortgage Note (9.5%, Due 12/2014) (D) |
7,145 | 7,145 | 7,011 | |||||||||||||
| Senior Term Debt (12.0%, Due 12/2014) (C)(D) |
11,543 | 11,543 | 10,922 | |||||||||||||
| Senior Subordinated Term Debt (12.5%, Due 12/2014) (D) |
6,000 | 6,000 | 5,678 | |||||||||||||
| Common Stock Warrants (764 shares) (F) (G) |
209 | 587 | ||||||||||||||
F-56
Table of Contents
GLADSTONE CAPITAL CORPORATION
CONDENSED CONSOLIDATED SCHEDULE OF INVESTMENTS (Continued)
AS OF DECEMBER 31, 2011
(DOLLAR AMOUNTS IN THOUSANDS)
(UNAUDITED)
| Company(A) |
Industry |
Investment(B) |
Principal | Cost | Fair Value | |||||||||||
| NON-CONTROL/NON-AFFILIATE INVESTMENTS (Continued): |
| |||||||||||||||
| Saunders & Associates |
Manufacturing-equipment provider for frequency control devices | Line of Credit, $2,500 available (11.3%, Due 5/2013) (D) |
— | — | — | |||||||||||
| Senior Term Debt (11.3%, Due 5/2013) (D) |
8,947 | 8,947 | 8,868 | |||||||||||||
| Sunburst Media—Louisiana, LLC |
Service-radio station operator | Senior Term Debt (10.5%, Due 1/2012) (D) |
6,000 | 6,000 | 3,300 | |||||||||||
| Thibaut Acquisition Co. |
Service-design and distribute wall covering | Line of Credit, $475 available (9.0%, Due 1/2014) (D) |
525 | 525 | 513 | |||||||||||
| Senior Term Debt (8.5%, Due 1/2014) (D) |
419 | 419 | 409 | |||||||||||||
| Senior Term Debt (12.0%, Due 1/2014) (C) (D) |
3,000 | 3,000 | 2,918 | |||||||||||||
| Westlake Hardware, Inc. |
Retail-hardware and variety | Senior Subordinated Term Debt (12.3%, Due 1/2014) (D) |
12,000 | 12,000 | 11,685 | |||||||||||
| Senior Subordinated Term Debt (13.5%, Due 1/2014) (D) |
8,000 | 8,000 | 7,730 | |||||||||||||
| Westland Technologies, Inc. |
Service-diversified conglomerate | Line of Credit, $1,000 available (6.5%, Due 4/2012) (D) |
$ | — | $ | — | $ | — | ||||||||
| Senior Term Debt (7.5%, Due 4/2016) (D) |
2,000 | 2,000 | 2,000 | |||||||||||||
| Senior Term Debt (12.5%, Due 4/2016) (D) |
4,000 | 4,000 | 4,000 | |||||||||||||
| Common Stock Warrants (77,287 shares) (F) (G) |
350 | 302 | ||||||||||||||
| Winchester Electronics |
Manufacturing-high bandwidth connectors and cables | Senior Term Debt (5.3%, Due 5/2012) (D) |
1,250 | 1,250 | 1,239 | |||||||||||
| Senior Term Debt (5.8%, Due 5/2013) (D) |
1,669 | 1,669 | 1,650 | |||||||||||||
| Senior Subordinated Term Debt (14.0%, Due 6/2013) (D) |
9,775 | 9,775 | 9,616 | |||||||||||||
|
|
|
|
|
|||||||||||||
| Subtotal – Non-syndicated loans |
$ | 182,884 | $ | 159,659 | ||||||||||||
|
|
|
|
|
|||||||||||||
F-57
Table of Contents
GLADSTONE CAPITAL CORPORATION
CONDENSED CONSOLIDATED SCHEDULE OF INVESTMENTS (Continued)
AS OF DECEMBER 31, 2011
(DOLLAR AMOUNTS IN THOUSANDS)
(UNAUDITED)
| Company(A) |
Industry |
Investment(B) |
Principal | Cost | Fair Value |
|||||||||||
| NON-CONTROL/NON-AFFILIATE INVESTMENTS (Continued): |
| |||||||||||||||
| Syndicated Loans: |
||||||||||||||||
| Airvana Network Solutions, Inc. |
Service-telecommunications |
Senior Term Debt (10.0%, Due 3/2015) (E) |
$ | 4,381 | $ | 4,267 | $ | 4,381 | ||||||||
| Allied Security Holdings, LLC |
Service-contract security officer providers |
Senior Subordinated Term Debt (8.5%, Due 2/2018) (E) |
1,000 | 991 | 970 | |||||||||||
| Allied Specialty Vehicles, Inc. |
Manufacturing-specialty vehicles |
Senior Term Debt (9.5%, Due 2/2016) (E) |
9,925 | 9,751 | 9,726 | |||||||||||
| Ameriqual Group, LLC |
Manufacturing-production and distribution of food products |
Senior Term Debt (9.0%, Due 3/2016) (E) |
7,462 | 7,332 | 7,313 | |||||||||||
| Applied Systems, Inc. |
Software for property & casualty insurance industry |
Senior Subordinated Term Debt (9.3%, Due 6/2017) (E) |
1,000 | 991 | 965 | |||||||||||
| Ascend Learning, LLC |
Service-technology-based learning solutions |
Senior Subordinated Term Debt (11.5%, Due 12/2017) (E) |
1,000 | 973 | 998 | |||||||||||
| Attachmate Corporate |
Service-develops, implements and supports software |
Senior Subordinated Term Debt (9.5%, Due 2/2017) (E) |
4,000 | 3,963 | 3,800 | |||||||||||
| Autoparts Holdings Limited |
Supplier to the light and heavy-duty vehicle after market for replacement parts |
Senior Term Debt (10.5%, Due 1/2018) (E) |
1,000 | 995 | 960 | |||||||||||
| Covad Communications Group, Inc. |
Service-telecommunications |
Senior Term Debt (12.0%, Due 11/2015) (E) |
1,800 | 1,770 | 1,755 | |||||||||||
| Ernest Health, Inc. |
Service-post-acute care services |
Senior Term Debt (10.3%, Due 5/2017) (E) |
2,000 | 1,972 | 1,930 | |||||||||||
| Global Brass and Copper, Inc. |
Manufacturing - steel wool products and metal fibers |
Senior Term Debt (10.3%, Due 8/2015) (E) |
2,961 | 2,889 | 2,994 | |||||||||||
| HGI Holding, Inc |
Service - distributor of disposable medical products |
Senior Term Debt (6.8%, Due 10/2016) (E) |
1,757 | 1,724 | 1,739 | |||||||||||
| Hubbard Radio, LLC |
Service-radio station operator |
Senior Subordinated Term Debt (8.8%, Due 4/2018) (E) |
500 | 495 | 495 | |||||||||||
F-58
Table of Contents
GLADSTONE CAPITAL CORPORATION
CONDENSED CONSOLIDATED SCHEDULE OF INVESTMENTS (Continued)
AS OF DECEMBER 31, 2011
(DOLLAR AMOUNTS IN THOUSANDS)
(UNAUDITED)
| Company(A) |
Industry |
Investment(B) |
Principal | Cost | Fair Value | |||||||||||
| NON-CONTROL/NON-AFFILIATE INVESTMENTS (Continued): |
| |||||||||||||||
| Keypoint Government Solutions, Inc. |
Service-security consulting services | Senior Term Debt (10.0%, Due 12/2015) (E) |
6,930 | 6,900 | 6,791 | |||||||||||
| Mood Media Corporation |
Service-media and marketing solutions | Senior Term Debt (10.3%, Due 11/2018) (E) |
8,000 | 7,925 | 7,320 | |||||||||||
| National Surgical Hospitals, Inc. |
Service-physician-partnered surgical facilities | Senior Term Debt (8.3%, Due 2/2017) (E) |
1,690 | 1,655 | 1,597 | |||||||||||
| Sensus USA, Inc. |
Service-provider of utility communication Services | Senior Term Debt (8.5%, Due 5/2018) (E) |
500 | 495 | 488 | |||||||||||
| Springs Window Fashions, LLC |
Manufacturing-window coverings | Senior Term Debt (11.3%, Due 11/2017) (E) |
5,000 | 4,859 | 4,850 | |||||||||||
| SRAM, LLC |
Manufacturing-premium bicycle components | Senior Term Debt (8.5%, Due 12/2018) (E) |
2,500 | 2,476 | 2,488 | |||||||||||
| Targus Group International, Inc. |
Manufacturing-carrying cases and accessories for notebook computers | Senior Term Debt (11.0%, Due 5/2016) (E) |
9,950 | 9,769 | 9,602 | |||||||||||
| Ulterra Drilling Technologies, LP |
Manufacturing-oil field drill bits and slick- slip reduction tools | Senior Term Debt (9.5%, Due 6/2016) (E) |
1,950 | 1,914 | 1,892 | |||||||||||
| Vision Solutions, Inc. |
Service-provider of information availability software | Senior Term Debt (9.5%, Due 7/2017) (E) |
11,000 | 10,918 | 10,725 | |||||||||||
| Wall Street Systems Holdings, Inc. |
Service-software provider | Senior Term Debt (9.0%, Due 6/2018) (E) |
3,000 | 2,972 | 2,850 | |||||||||||
| WP Evenflo Group Holdings, Inc. |
Manufacturing-infant and juvenile Products | Senior Term Debt (8.0%, Due 2/2013) (E) |
1,853 | 1,853 | 1,667 | |||||||||||
| Senior Preferred Equity (333.3 shares) (F) (G) |
333 | 429 | ||||||||||||||
| Junior Preferred Equity (111.1 shares) (F) (G) |
111 | 151 | ||||||||||||||
| Common Stock (1,874 shares) (F) (G) |
— | 297 | ||||||||||||||
|
|
|
|
|
|||||||||||||
| Subtotal—Syndicated loans |
$ | 90,293 | $ | 89,173 | ||||||||||||
|
|
|
|
|
|||||||||||||
| Total Non-Control/Non-Affiliate Investments (represented 85.0% of total investments at fair value) |
|
$ | 273,177 | $ | 248,832 | |||||||||||
|
|
|
|
|
|||||||||||||
F-59
Table of Contents
GLADSTONE CAPITAL CORPORATION
CONDENSED CONSOLIDATED SCHEDULE OF INVESTMENTS (Continued)
AS OF DECEMBER 31, 2011
(DOLLAR AMOUNTS IN THOUSANDS)
(UNAUDITED)
| Company(A) |
Industry |
Investment(B) |
Principal | Cost | Fair Value |
|||||||||||
| CONTROL INVESTMENTS |
||||||||||||||||
| BERTL, Inc. |
Service-web-based evaluator of imaging products | Line of Credit, $69 available (6.5%, Due 4/2012)(F) (H) |
$ | 1,367 | $ | 1,367 | $ | — | ||||||||
| Common Stock (100 shares) (F) (G) |
424 | — | ||||||||||||||
| Defiance Integrated Technologies, Inc. |
Manufacturing-trucking parts | Senior Term Debt (11.0%, Due 4/2013) (C) (F) |
7,425 | 7,425 | 7,425 | |||||||||||
| Common Stock (15,500 shares) (F) (G) |
1 | 8,681 | ||||||||||||||
| Kansas Cable Holdings, Inc. |
Service - cable, internet, voice provider | Line of Credit, $14 available (10.0%, Due 10/2012) (D) (H) |
511 | 502 | 8 | |||||||||||
| Senior Term Debt (10.0%, Due 10/2012) (D) (H) |
1,500 | 1,444 | 22 | |||||||||||||
| Senior Term Debt (10.0%, Due 10/2012) (D) (H) |
1,039 | 1,000 | 16 | |||||||||||||
| Common Stock (100 shares) (F) (G) |
— | — | ||||||||||||||
| Lindmark Acquisition, LLC |
Service-advertising | Senior Subordinated Term Debt (11.0%, Due 10/2012) (D) (H) |
10,000 | 10,000 | 1,700 | |||||||||||
| Senior Subordinated Term Debt (13.0%, Due 10/2012) (D) (H) |
2,000 | 2,000 | 340 | |||||||||||||
| Senior Subordinated Term Debt (13.0%, Due Upon Demand) (D) (H) |
1,909 | 1,909 | 324 | |||||||||||||
| Common Stock (100 shares) (F) (G) |
317 | — | ||||||||||||||
| LocalTel, LLC |
Service-yellow pages publishing | Line of credit, $357 available (10.0%, Due 6/2012) (F) (H) |
1,993 | 1,993 | 762 | |||||||||||
| Line of Credit, $1,830 available (4.8%, Due 6/2012) (F) (H) |
1,170 | 1,170 | — | |||||||||||||
| Senior Term Debt (12.5%, Due 2/2012) (F) (H) |
325 | 325 | — | |||||||||||||
| Senior Term Debt (8.5%, Due 6/2012) (F) (H) |
2,687 | 2,687 | — | |||||||||||||
| Senior Term Debt (10.5%, Due 6/2012) (C) (F) (H) |
2,750 | 2,750 | — | |||||||||||||
| Common Stock Warrants (4,000 shares) (F) (G) |
— | — | ||||||||||||||
F-60
Table of Contents
GLADSTONE CAPITAL CORPORATION
CONDENSED CONSOLIDATED SCHEDULE OF INVESTMENTS (Continued)
AS OF DECEMBER 31, 2011
(DOLLAR AMOUNTS IN THOUSANDS)
(UNAUDITED)
| Company(A) |
Industry |
Investment(B) |
Principal | Cost | Fair Value | |||||||||||
| CONTROL INVESTMENTS (continued) |
||||||||||||||||
| Midwest Metal Distribution, Inc. |
Distribution-aluminum sheets and stainless steel | Senior Subordinated Term Debt (12.0%, Due 7/2013) (D) |
18,281 | 18,264 | 17,641 | |||||||||||
| Common Stock (501 shares) (F) (G) |
138 | — | ||||||||||||||
| Sunshine Media Holdings |
Service-publisher regional B2B trade magazines | Line of credit, $400 available (4.8%, Due 8/2014) (D) |
1,600 | 1,600 | 320 | |||||||||||
| Senior Term Debt (4.8%, Due 5/2016) (D) |
16,948 | 16,948 | 3,390 | |||||||||||||
| Senior Term Debt (5.5%, Due 5/2016) (C) (D) |
10,700 | 10,700 | 2,140 | |||||||||||||
| Junior Preferred Equity (8,310.8 shares) (F) (G) |
3,075 | — | ||||||||||||||
| Common Stock (934 shares) (F) (G) |
740 | — | ||||||||||||||
| U.S. Healthcare Communications, Inc. |
Service-magazine publisher/operator | Line of credit, $131 available (6.0%, Due 12/2010) (F) (H) |
269 | 269 | — | |||||||||||
| Line of credit, $0 available (6.0%, Due 12/2010) (F) (H) |
450 | 450 | — | |||||||||||||
| Common Stock (100 shares) (F) (G) |
2,470 | — | ||||||||||||||
| Viapack, Inc. |
Manufacturing-polyethylene film | Line of Credit, $0 available (10.0%, Due 3/2013) (D) |
2,800 | 2,800 | 476 | |||||||||||
| Senior Real Estate Term Debt (10.0%, Due 3/2014) (D) |
600 | 600 | 102 | |||||||||||||
| Senior Term Debt (13.0%, Due 3/2014) (C) (D) |
3,925 | 3,925 | 667 | |||||||||||||
| Preferred Equity (100 shares) (F) (G) |
— | — | ||||||||||||||
| Total Control Investments (represented 15.0% of total investments at fair value) |
|
$ | 97,293 | $ | 44,014 | |||||||||||
|
|
|
|
|
|||||||||||||
| Total Investments |
$ | 370,470 | $ | 292,846 | ||||||||||||
|
|
|
|
|
|||||||||||||
| (A) | Certain of the securities listed in the above chart are issued by affiliate(s) of the indicated portfolio company. |
| (B) | Percentage represents interest rates in effect at December 31, 2011, and due date represents the contractual maturity date. |
| (C) | Last Out Tranche (“LOT”) of senior debt, meaning if the portfolio company is liquidated, the holder of the LOT is paid after the senior debt. |
| (D) | Fair value was primarily based on opinions of value submitted by Standard & Poor’s Securities Evaluations, Inc. |
| (E) | Security valued based on the indicative bid price on or near December 31, 2011, offered by the respective syndication agent’s trading desk or secondary desk. |
| (F) | Fair value was primarily based on the total enterprise value of the portfolio company using a liquidity waterfall approach. The Company also considered discounted cash flow methodologies. |
F-61
Table of Contents
GLADSTONE CAPITAL CORPORATION
CONDENSED CONSOLIDATED SCHEDULE OF INVESTMENTS (Continued)
AS OF DECEMBER 31, 2011
(DOLLAR AMOUNTS IN THOUSANDS)
(UNAUDITED)
| (G) | Security is non-income producing. |
| (H) | Debt security is on non-accrual status. |
| (I) | Security was paid off, at par, subsequent to December 31, 2011, and was valued based on the payoff. |
| (J) | In January 2012, the Company amended certain contractual provisions on its debt investments in International Junior Golf Training Acquisition Company, including the maturity date, which was extended to May 2014. |
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.
F-62
Table of Contents
GLADSTONE CAPITAL CORPORATION
CONDENSED CONSOLIDATED SCHEDULE OF INVESTMENTS
SEPTEMBER 30, 2011
(DOLLAR AMOUNTS IN THOUSANDS)
| Company(A) |
Industry |
Investment(B) |
Principal | Cost | Fair Value | |||||||||||
| NON-CONTROL/NON-AFFILIATE INVESTMENTS |
||||||||||||||||
| Non-syndicated Loans: |
||||||||||||||||
| Access Television Network, Inc. |
Service-cable airtime (infomercials) | Senior Term Debt (14.0%, Due 2/2011) (D) (H) |
$ | 903 | $ | 903 | $ | 45 | ||||||||
| Allison Publications, LLC |
Service-publisher of consumer oriented magazines | Senior Term Debt (10.5%, Due 9/2012) (D) |
8,463 | 8,478 | 7,861 | |||||||||||
| BAS Broadcasting |
Service-radio station operator | Senior Term Debt (11.5%, Due 7/2013) (D) |
7,465 | 7,465 | 6,233 | |||||||||||
| Chinese Yellow Pages Company |
Service-publisher of Chinese language directories | Line of Credit, $250 available (7.3%, Due 11/2011) (D) |
450 | 450 | 338 | |||||||||||
| Senior Term Debt (7.3%, Due 11/2011) (D) |
168 | 168 | 126 | |||||||||||||
| CMI Acquisition, LLC |
Service-recycling | Senior Subordinated Term Debt |
14,265 | 14,265 | 14,336 | |||||||||||
| FedCap Partners, LLC |
Private equity fund | Class A Membership Units (80 units) (G) |
1,200 | 1,153 | ||||||||||||
| Uncalled Capital Commitment ($800) |
||||||||||||||||
| GFRC Holdings, LLC |
Manufacturing-glass-fiber reinforced concrete | Senior Term Debt (11.5%, Due 12/2012) (D) |
5,617 | 5,617 | 4,719 | |||||||||||
| Senior Subordinated Term Debt (14.0%, Due 12/2012) (D) |
6,615 | 6,615 | 5,557 | |||||||||||||
| Global Materials Technologies, Inc. |
Manufacturing-steel wool products and metal fibers | Senior Term Debt (13.0%, Due 6/2012) (C) (D) |
2,635 | 2,635 | 2,212 | |||||||||||
| Heartland Communications Group |
Service-radio station operator | Line of Credit, $0 available (5.0%, Due 3/2013) (D) |
100 | 100 | 41 | |||||||||||
| Line of Credit, $0 available (10.0%, Due 3/2013) (D) |
100 | 100 | 41 | |||||||||||||
| Senior Term Debt (5.0%, Due 3/2013) (D) |
4,342 | 4,316 | 1,780 | |||||||||||||
| Common Stock Warrants (8.8% ownership) (F) (G) |
66 | — | ||||||||||||||
| International Junior Golf Training Acquisition Company |
Service-golf training | Line of Credit, $0 available (11.0%, Due 5/2012) (D) |
1,500 | 1,500 | 1,275 | |||||||||||
| Senior Term Debt (10.5%, Due 5/2012) (D) |
861 | 861 | 732 | |||||||||||||
| Senior Term Debt (12.5%, Due 5/2012) (C)(D) |
2,500 | 2,500 | 2,125 | |||||||||||||
F-63
Table of Contents
GLADSTONE CAPITAL CORPORATION
CONDENSED CONSOLIDATED SCHEDULE OF INVESTMENTS (Continued)
AS OF SEPTEMBER 30, 2011
(DOLLAR AMOUNTS IN THOUSANDS)
| Company(A) |
Industry |
Investment(B) |
Principal | Cost | Fair Value | |||||||||||
| NON-CONTROL/NON-AFFILIATE INVESTMENTS (Continued): |
|
|||||||||||||||
| KMBQ Corporation |
Service-AM/FM radio broadcaster | Line of Credit, $42 available (12.3%, Due 7/2010) (D) (H) |
$ | 162 | $ | 158 | $ | 76 | ||||||||
| Senior Term Debt (12.3%, Due 7/2010) (D) (H) |
2,081 | 2,038 | 984 | |||||||||||||
| Legend Communications of |
Service-operator of radio stations | Senior Term Debt (12.0%, Due 6/2013) (D) |
9,745 | 9,745 | 5,408 | |||||||||||
| Wyoming, LLC |
Senior Term Debt (16.0%, Due 7/2011) (D) |
220 | 220 | 123 | ||||||||||||
| Newhall Holdings, Inc. |
Service-distributor of personal care products and supplements | Line of Credit, $0 available (8.0%, Due 12/2012) (D) (H) |
1,985 | 1,985 | 98 | |||||||||||
| Senior Term Debt (8.5%, Due 12/2012) (D) (H) |
1,870 | 1,870 | 94 | |||||||||||||
| Senior Term Debt (3.5%, Due 12/2012) (C) (D) (H) |
2,000 | 2,000 | 100 | |||||||||||||
| Senior Term Debt (3.5%, Due 12/2012) (C) (D) (H) |
4,648 | 4,648 | 232 | |||||||||||||
| Preferred Equity (1,000,000 shares) (F) (G) (H) |
— | — | ||||||||||||||
| Common Stock (688,500 shares) (F) (G) |
— | — | ||||||||||||||
| North American Aircraft Services LLC |
Service - repairs and maintains aircraft fuel tanks and fuel systems | Line of Credit, $1,500 available (6.5%, Due 8/2012) (D) |
500 | 500 | 500 | |||||||||||
| Senior Term Debt (7.5%, Due 8/2016) (D) |
3,250 | 3,250 | 3,250 | |||||||||||||
| Senior Subordinated Term Debt |
4,750 | 4,750 | 4,750 | |||||||||||||
| Common Stock Warrants (4.8% ownership) (F) (G) |
350 | 350 | ||||||||||||||
| Northern Contours, Inc. |
Manufacturing-veneer and laminate components | Senior Subordinated Term Debt |
6,128 | 6,128 | 5,684 | |||||||||||
| Northstar Broadband, LLC |
Service-cable TV franchise owner | Senior Term Debt (0.7%, Due 12/2012) (D) |
80 | 70 | 64 | |||||||||||
| Precision Acquisition Group Holdings, Inc. |
Manufacturing-consumable components for the Aluminum industry | Equipment Note (13.0%, Due 11/2011) (D) |
1,000 | 1,000 | 948 | |||||||||||
| Senior Term Debt (13.0%, Due 11/2011) (D) |
4,125 | 4,125 | 3,908 | |||||||||||||
| Senior Term Debt (13.0%, Due 11/2011) (C) (D) |
4,053 | 4,053 | 3,840 | |||||||||||||
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GLADSTONE CAPITAL CORPORATION
CONDENSED CONSOLIDATED SCHEDULE OF INVESTMENTS (Continued)
AS OF SEPTEMBER 30, 2011
(DOLLAR AMOUNTS IN THOUSANDS)
| Company(A) |
Industry |
Investment(B) |
Principal | Cost | Fair Value | |||||||||||
| NON-CONTROL/NON-AFFILIATE INVESTMENTS (Continued): |
|
|||||||||||||||
| PROFIT Systems Acquisition Co. |
Service-design and develop ERP software | Line of Credit, $350 available (11.3%, Due 7/2012) (D) |
$ | — | $ | — | $ | — | ||||||||
| Senior Term Debt (10.5%, Due 7/2014) (C) (D) |
3,150 | 3,150 | 3,024 | |||||||||||||
| RCS Management Holding Co. |
Service-healthcare supplies | Senior Term Debt (9.5%, Due 1/2013) (D) |
1,438 | 1,438 | 1,367 | |||||||||||
| Senior Term Debt (11.5%, Due 1/2013) (C) (D) |
3,060 | 3,060 | 2,907 | |||||||||||||
| Reliable Biopharmaceutical Holdings, Inc. |
Manufacturing-pharmaceutical and biochemical intermediates | Line of Credit, $2,800 available (9.0%, Due 1/2013) (D) |
1,200 | 1,200 | 1,176 | |||||||||||
| Mortgage Note (9.5%, Due 12/2014) (D) |
7,168 | 7,168 | 7,025 | |||||||||||||
| Senior Term Debt (12.0%, Due 12/2014) (C)(D) |
11,573 | 11,573 | 10,906 | |||||||||||||
| Senior Subordinated Term Debt (12.5%, Due 12/2014) (D) |
6,000 | 6,000 | 5,655 | |||||||||||||
| Common Stock Warrants (764 shares) (F) (G) |
209 | 534 | ||||||||||||||
| Saunders & Associates |
Manufacturing-equipment provider for frequency control devices | Line of Credit, $2,500 available (11.3%, Due 5/2013) (D) |
— | — | — | |||||||||||
| Senior Term Debt (11.3%, Due 5/2013) (D) |
8,947 | 8,947 | 8,913 | |||||||||||||
| Sunburst Media - Louisiana, LLC |
Service-radio station operator | Senior Term Debt (10.5%, Due 12/2011) (D) |
6,100 | 6,103 | 3,964 | |||||||||||
| Thibaut Acquisition Co. |
Service-design and distribute wall covering | Line of Credit, $400 available (9.0%, Due 1/2014) (D) |
600 | 600 | 585 | |||||||||||
| Senior Term Debt (8.5%, Due 1/2014) (D) |
550 | 550 | 536 | |||||||||||||
| Senior Term Debt (12.0%, Due 1/2014) (C) (D) |
3,000 | 3,000 | 2,910 | |||||||||||||
| Westlake Hardware, Inc. |
Retail-hardware and variety | Senior Subordinated Term Debt (12.3%, Due 1/2014) (D) |
12,000 | 12,000 | 11,640 | |||||||||||
| Senior Subordinated Term Debt (13.5%, Due 1/2014) (D) |
8,000 | 8,000 | 7,700 | |||||||||||||
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GLADSTONE CAPITAL CORPORATION
CONDENSED CONSOLIDATED SCHEDULE OF INVESTMENTS (Continued)
AS OF SEPTEMBER 30, 2011
(DOLLAR AMOUNTS IN THOUSANDS)
| Company(A) |
Industry |
Investment(B) |
Principal | Cost | Fair Value | |||||||||||
| NON-CONTROL/NON-AFFILIATE INVESTMENTS (Continued): |
|
|||||||||||||||
| Westland Technologies, Inc. |
Service-diversified conglomerate | Line of Credit, $1,000 available (6.5%, Due 4/2012) (D) |
$ | — | $ | — | $ | — | ||||||||
| Senior Term Debt (7.5%, Due 4/2016) (D) |
2,000 | 2,000 | 1,995 | |||||||||||||
| Senior Term Debt (12.5%, Due 4/2016) (D) |
4,000 | 4,000 | 3,990 | |||||||||||||
| Common Stock Warrants (77,287 shares) (F) (G) |
350 | 307 | ||||||||||||||
| Winchester Electronics |
Manufacturing-high bandwidth connectors and cables | Senior Term Debt (5.2%, Due 5/2012) (D) |
1,250 | 1,250 | 1,238 | |||||||||||
| Senior Term Debt (5.7%, Due 5/2013) (D) |
1,677 | 1,677 | 1,656 | |||||||||||||
| Senior Subordinated Term Debt (14.0%, Due 6/2013) (D) |
9,800 | 9,800 | 9,628 | |||||||||||||
|
|
|
|
|
|||||||||||||
| Subtotal – Non-syndicated loans |
$ | 196,204 | $ | 166,639 | ||||||||||||
|
|
|
|
|
|||||||||||||
| Syndicated Loans: |
||||||||||||||||
| Airvana Network Solutions, Inc. |
Service-telecommunications | Senior Term Debt (10.0%, Due 3/2015) (E) |
6,048 | 5,912 | 6,048 | |||||||||||
| Allied Security Holdings, LLC |
Service-contract security officer providers | Senior Subordinated Term Debt (8.5%, Due 2/2018) (E) |
1,000 | 991 | 965 | |||||||||||
| Allied Specialty Vehicles, Inc. |
Manufacturing-specialty vehicles | Senior Term Debt (9.5%, Due 2/2016) (E) |
9,950 | 9,767 | 9,751 | |||||||||||
| Ameriqual Group, LLC |
Manufacturing-production and distribution of food products | Senior Term Debt (9.0%, Due 3/2016) (E) |
7,481 | 7,344 | 7,332 | |||||||||||
| Applied Systems, Inc. |
Software for property & casualty insurance industry | Senior Subordinated Term Debt (9.3%, Due 6/2017) (E) |
1,000 | 991 | 990 | |||||||||||
| Ascend Learning, LLC |
Service-technology-based learning solutions | Senior Subordinated Term Debt (11.5%, Due 12/2017) (E) |
1,000 | 972 | 980 | |||||||||||
| Attachmate Corporate |
Service-develops, implements and supports software | Senior Subordinated Term Debt (9.5%, Due 2/2017) (E) |
4,000 | 3,962 | 3,810 | |||||||||||
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GLADSTONE CAPITAL CORPORATION
CONDENSED CONSOLIDATED SCHEDULE OF INVESTMENTS (Continued)
AS OF SEPTEMBER 30, 2011
(DOLLAR AMOUNTS IN THOUSANDS)
| Company(A) |
Industry |
Investment(B) |
Principal | Cost | Fair Value | |||||||||||
| NON-CONTROL/NON-AFFILIATE INVESTMENTS (Continued): |
|
|||||||||||||||
| Autoparts Holdings Limited |
Supplier to the light and heavy-duty vehicle after market for replacement parts | Senior Term Debt (10.5%, Due 1/2018) (E) |
$ | 1,000 | $ | 995 | $ | 978 | ||||||||
| Covad Communications Group, Inc. |
Service-telecommunications | Senior Term Debt (12.0%, Due 11/2015) (E) |
1,850 | 1,818 | 1,795 | |||||||||||
| Ernest Health, Inc. |
Service-post-acute care services | Senior Term Debt (10.3%, Due 5/2017) (E) |
2,000 | 1,971 | 1,930 | |||||||||||
| Global Brass and Copper, Inc. |
Manufacturing - steel wool products and metal fibers | Senior Term Debt (10.3%, Due 8/2015) (E) |
2,969 | 2,893 | 3,054 | |||||||||||
| HGI Holding, Inc |
Service - distributor of disposable medical products | Senior Term Debt (6.8%, Due 10/2016) (E) |
1,757 | 1,723 | 1,687 | |||||||||||
| Hubbard Radio, LLC |
Service-radio station operator | Senior Subordinated Term Debt (8.8%, Due 4/2018) (E) |
500 | 495 | 488 | |||||||||||
| Keypoint Government Solutions, Inc. |
Service-security consulting services | Senior Term Debt (10.0%, Due 12/2015) (E) |
6,948 | 6,916 | 6,670 | |||||||||||
| Mood Media Corporation |
Service-media and marketing solutions | Senior Term Debt (10.3%, Due 11/2018) (E) |
8,000 | 7,923 | 7,370 | |||||||||||
| National Surgical Hospitals, Inc. |
Service-physician-partnered surgical facilities | Senior Term Debt (8.3%, Due 2/2017) (E) |
1,694 | 1,658 | 1,627 | |||||||||||
| Sensus USA, Inc. |
Service-provider of utility communication services | Senior Term Debt (8.5%, Due 5/2018) (E) |
500 | 495 | 483 | |||||||||||
| Springs Window Fashions, LLC |
Manufacturing-window coverings | Senior Term Debt (11.3%, Due 11/2017) (E) |
5,000 | 4,855 | 4,750 | |||||||||||
| SRAM, LLC |
Manufacturing-premium bicycle components | Senior Term Debt (8.5%, Due 12/2018) (E) |
2,500 | 2,476 | 2,475 | |||||||||||
| Targus Group International, Inc. accessories for notebook computers |
Manufacturing-carrying cases and | Senior Term Debt (11.0%, Due 5/2016) (E) |
9,975 | 9,785 | 9,626 | |||||||||||
| Ulterra Drilling Technologies, LP slip reduction tools |
Manufacturing-oil field drill bits and slick- | Senior Term Debt (9.5%, Due 6/2016) (E) |
1,975 | 1,937 | 1,916 | |||||||||||
| Vision Solutions, Inc. availability software |
Service-provider of information | Senior Term Debt (9.5%, Due 7/2017) (E) |
11,000 | 10,915 | 10,560 | |||||||||||
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GLADSTONE CAPITAL CORPORATION
CONDENSED CONSOLIDATED SCHEDULE OF INVESTMENTS (Continued)
AS OF SEPTEMBER 30, 2011
(DOLLAR AMOUNTS IN THOUSANDS)
| Company(A) |
Industry |
Investment(B) |
Principal | Cost | Fair Value | |||||||||||
| NON-CONTROL/NON-AFFILIATE INVESTMENTS (Continued): |
|
|||||||||||||||
| Wall Street Systems Holdings, Inc. |
Service-software provider | Senior Term Debt (9.0%, Due 6/2018) (E) |
$ | 3,000 | $ | 2,971 | $ | 2,880 | ||||||||
| WP Evenflo Group Holdings Inc. |
Manufacturing-infant and juvenile products | Senior Term Debt (8.0%, Due 2/2013) (E) |
1,853 | 1,853 | 1,723 | |||||||||||
| Senior Preferred Equity (333.3 shares) (F) (G) |
333 | 419 | ||||||||||||||
| Junior Preferred Equity (111.1 shares) (F) (G) |
111 | 146 | ||||||||||||||
| Common Stock (1,874 shares) (F) (G) |
— | 210 | ||||||||||||||
|
|
|
|
|
|||||||||||||
| Subtotal—Syndicated loans |
$ | 92,062 | $ | 90,663 | ||||||||||||
|
|
|
|
|
|||||||||||||
| Total Non-Control/Non-Affiliate Investments (represented 84.9% of total investments at fair value) |
$ | 288,266 | $ | 257,302 | ||||||||||||
|
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|
|
|
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| CONTROL INVESTMENTS |
||||||||||||||||
| BERTL, Inc. |
Service-web-based evaluator of imaging products | Line of Credit, $6 available (6.4%, Due 10/2011)(F) (H) |
1,427 | 1,355 | — | |||||||||||
| Common Stock (100 shares) (F) (G) |
424 | — | ||||||||||||||
| Defiance Integrated Technologies, Inc. |
Manufacturing-trucking parts | Senior Term Debt (11.0%, Due 4/2013) (C) (F) |
7,505 | 7,505 | 7,505 | |||||||||||
| Common Stock (15,500 shares) (F) (G) |
1 | 7,534 | ||||||||||||||
| Kansas Cable Holdings, Inc. |
Service - cable, internet, voice provider | Line of Credit, $179 available (10.0%, Due 10/2012) (D) (H) |
346 | 337 | 14 | |||||||||||
| Senior Term Debt (10.0%, Due 10/2012) (D) (H) |
1,500 | 1,444 | 60 | |||||||||||||
| Senior Term Debt (10.0%, Due 10/2012) (D) (H) |
1,039 | 1,000 | 42 | |||||||||||||
| Common Stock (100 shares) (F) (G) |
— | — | ||||||||||||||
| Lindmark Acquisition, LLC |
Service-advertising | Senior Subordinated Term Debt (11.0%, Due 10/2012) (D) (H) |
10,000 | 10,000 | 2,000 | |||||||||||
| Senior Subordinated Term Debt (13.0%, Due 10/2012) (D) (H) |
2,000 | 2,000 | 400 | |||||||||||||
| Senior Subordinated Term Debt (13.0%, Due Upon Demand) (D) (H) |
1,908 | 1,908 | 383 | |||||||||||||
| Common Stock (100 shares) (F) (G) |
317 | — | ||||||||||||||
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GLADSTONE CAPITAL CORPORATION
CONDENSED CONSOLIDATED SCHEDULE OF INVESTMENTS (Continued)
AS OF SEPTEMBER 30, 2011
(DOLLAR AMOUNTS IN THOUSANDS)
| Company(A) |
Industry |
Investment(B) |
Principal | Cost | Fair Value | |||||||||||
| NON-CONTROL/NON-AFFILIATE INVESTMENTS (Continued): |
|
|||||||||||||||
| LocalTel, LLC |
Service-yellow pages publishing | Line of credit, $2 available (10.0%, Due 12/2011) (F) (H) |
$ | 1,848 | $ | 1,848 | $ | 734 | ||||||||
| Line of Credit, $1,830 available (4.7%, Due 6/2012) (F) (H) |
1,170 | 1,170 | — | |||||||||||||
| Senior Term Debt (12.5%, Due 2/2012) (F) (H) |
325 | 325 | — | |||||||||||||
| Senior Term Debt (8.5%, Due 6/2012) (F) (H) |
2,688 | 2,688 | — | |||||||||||||
| Senior Term Debt (10.5%, Due 6/2012) (C) (F) (H) |
2,750 | 2,750 | — | |||||||||||||
| Common Stock Warrants (4,000 shares) (F) (G) |
— | — | ||||||||||||||
| Midwest Metal Distribution, Inc. |
Distribution-aluminum sheets and stainless steel | Senior Subordinated Term Debt (12.0%, Due 7/2013) (D) |
18,281 | 18,262 | 17,184 | |||||||||||
| Common Stock (501 shares) (F) (G) |
138 | — | ||||||||||||||
| Sunshine Media Holdings |
Service-publisher regional B2B trade magazines | Line of credit, $1,100 available (10.5%, Due 8/2014) (D) |
900 | 900 | 270 | |||||||||||
| Senior Term Debt (10.5%, Due 5/2016) (D) |
16,948 | 16,948 | 5,084 | |||||||||||||
| Senior Term Debt (5.0%, Due 5/2016) (C) (D) |
10,700 | 10,700 | 3,210 | |||||||||||||
| Junior Preferred Equity (6,689 shares) (F) (G) |
2,475 | — | ||||||||||||||
| Common Stock (934 shares) (F) (G) |
740 | — | ||||||||||||||
| U.S. Healthcare Communications, Inc. |
Service-magazine publisher/operator | Line of credit, $131 available (6.0%, Due 12/2010) (F) (H) |
269 | 269 | — | |||||||||||
| Line of credit, $0 available (6.0%, Due 12/2010) (F) (H) |
450 | 450 | — | |||||||||||||
| Common Stock (100 shares) (F) (G) |
2,470 | — | ||||||||||||||
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GLADSTONE CAPITAL CORPORATION
CONDENSED CONSOLIDATED SCHEDULE OF INVESTMENTS (Continued)
AS OF SEPTEMBER 30, 2011
(DOLLAR AMOUNTS IN THOUSANDS)
| Company(A) |
Industry |
Investment(B) |
Principal | Cost | Fair Value | |||||||||||
| NON-CONTROL/NON-AFFILIATE INVESTMENTS (Continued): |
|
|||||||||||||||
| Viapack, Inc. |
Manufacturing-polyethylene film | Line of Credit, $900 available (10.0%, Due 3/2013) (D) |
$ | 1,600 | $ | 1,600 | $ | 320 | ||||||||
| Senior Real Estate Term Debt (10.0%, Due 3/2014) (D) |
600 | 600 | 120 | |||||||||||||
| Senior Term Debt (13.0%, Due 3/2014) (C) (D) |
3,925 | 3,925 | 785 | |||||||||||||
| Preferred Equity (100 shares) (F) (G) |
— | — | ||||||||||||||
|
|
|
|
|
|||||||||||||
| Total Control Investments (represented 15.1% of total investments at fair value) |
|
$ | 94,549 | $ | 45,645 | |||||||||||
|
|
|
|
|
|||||||||||||
| Total Investments (I) |
|
$ | 382,815 | $ | 302,947 | |||||||||||
|
|
|
|
|
|||||||||||||
| (A) | Certain of the securities listed in the above chart are issued by affiliate(s) of the indicated portfolio company. |
| (B) | Percentage represents interest rates in effect at September 30, 2011, and due date represents the contractual maturity date. |
| (C) | Last Out Tranche (“LOT”) of senior debt, meaning if the portfolio company is liquidated, the holder of the LOT is paid after the senior debt. |
| (D) | Fair value was primarily based on opinions of value submitted by Standard & Poor’s Securities Evaluations, Inc. |
| (E) | Security valued based on the indicative bid price on or near September 30, 2011, offered by the respective syndication agent’s trading desk or secondary desk. |
| (F) | Fair value was primarily based on the total enterprise value of the portfolio company using a liquidity waterfall approach. The Company also considered discounted cash flow methodologies. |
| (G) | Security is non-income producing. |
| (H) | Debt security is on non-accrual status. |
| (I) | Cumulative gross unrealized depreciation for federal income tax purposes is $88,670; cumulative gross unrealized appreciation for federal income tax purposes is $8,566. Cumulative net unrealized depreciation is $80,104 based on a tax cost of $383,052. |
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.
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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
DECEMBER 31, 2011
(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA AND AS OTHERWISE INDICATED)
NOTE 1. ORGANIZATION
Gladstone Capital Corporation (the “Company”) was incorporated under the General Corporation Laws of the State of Maryland on May 30, 2001 and completed an initial public offering on August 23, 2001. The Company is a closed-end, non-diversified management investment company that has elected to be treated as a business development company (“BDC”) under the Investment Company Act of 1940, as amended (the “1940 Act”). In addition, the Company has elected to be treated for tax purposes as a regulated investment company (“RIC”) under the Internal Revenue Code of 1986, as amended (the “Code”). The Company’s investment objective is to achieve a high level of current income by investing in debt securities, consisting primarily of senior notes, senior subordinated notes and junior subordinated notes, with a particular focus on senior notes, of established private businesses in the United States that are substantially owned by leveraged buyout funds, individual investors or are family-owned businesses. In addition, the Company may acquire existing loans that meet this profile from other funds.
Gladstone Business Loan, LLC (“Business Loan”), a wholly-owned subsidiary of the Company, was established on February 3, 2003 for the sole purpose of owning the Company’s portfolio of investments in connection with its line of credit.
Gladstone Financial Corporation (“Gladstone Financial”), a wholly-owned subsidiary of the Company, was established on November 21, 2006 for the purpose of holding a license to operate as a Specialized Small Business Investment Company. Gladstone Financial (previously known as Gladstone SSBIC Corporation) acquired this license in February 2007. The license enables the Company, through this subsidiary, to make investments in accordance with the United States Small Business Administration guidelines for specialized small business investment companies.
The financial statements of the subsidiaries are consolidated with those of the Company.
The Company is externally managed by Gladstone Management Corporation (the “Adviser”), an affiliate of the Company.
NOTE 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Unaudited Interim Financial Statements and Basis of Presentation
Interim financial statements of the Company are prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) for interim financial information and pursuant to the requirements for reporting on Form 10-Q and Article 10 of Regulation S-X under the Securities Act of 1933, as amended (the “Securities Act”). Accordingly, certain disclosures accompanying annual financial statements prepared in accordance with GAAP are omitted. The accompanying condensed consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries. All significant intercompany balances and transactions have been eliminated. Under Article 6 of Regulation S-X under the Securities Act, and the authoritative accounting guidance provided by the AICPA Audit and Accounting Guide for Investment Companies, the Company is not permitted to consolidate any portfolio company investments, including those in which the Company has a controlling interest. In the opinion of the Company’s management, all adjustments, consisting solely of normal recurring accruals, necessary for the fair statement of financial statements for the interim periods have been included. The results of operations for the three months ended December 31, 2011, are
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not necessarily indicative of results that ultimately may be achieved for the year. The interim financial statements and notes thereto should be read in conjunction with the financial statements and notes thereto included in the Company’s annual report on Form 10-K for the fiscal year ended September 30, 2011, as filed with the Securities and Exchange Commission (the “SEC”) on November 14, 2011.
The fiscal year-end Condensed Consolidated Statement of Assets and Liabilities was derived from audited financial statements but does not include all disclosures required by GAAP.
Reclassifications
Certain amounts in the prior period’s financial statements have been reclassified to conform to the presentation for the period ended December 31, 2011 with no effect to net (decrease) increase in net assets resulting from operations.
Investment Valuation Policy
The Company carries its investments at fair value to the extent that market quotations are readily available and reliable and otherwise at fair value as determined in good faith by the Company’s board of directors (the “Board of Directors”). In determining the fair value of the Company’s investments, the Adviser has established an investment valuation policy (the “Policy”). The Policy has been approved by the Board of Directors, and each quarter the Board of Directors reviews whether the Adviser has applied the Policy consistently and votes whether to accept the recommended valuation of the Company’s investment portfolio.
The Company uses generally accepted valuation techniques to value its portfolio unless the Company has specific information about the value of an investment to determine otherwise. From time to time, the Company may accept an appraisal of a business in which the Company holds securities. These appraisals are expensive and occur infrequently, but provide a third-party valuation opinion that may differ in results, techniques and scope used to value the Company’s investments. When these specific third-party appraisals are obtained, the Company uses estimates of value provided by such appraisals and its own assumptions, including estimated remaining life, current market yield and interest rate spreads of similar securities as of the measurement date, to value its investments.
The Policy, summarized below, applies to publicly traded securities, securities for which a limited market exists and securities for which no market exists.
Publicly traded securities: The Company determines the value of publicly traded securities based on the closing price for the security on the exchange or securities market on which it is listed and primarily traded on the valuation date. To the extent that the Company owns restricted securities that are not freely tradable, but for which a public market otherwise exists, the Company will use the market value of that security adjusted for any decrease in value resulting from the restrictive feature.
Securities for which a limited market exists: The Company values securities that are not traded on an established secondary securities market, but for which a limited market for the security exists, such as certain participations in, or assignments of, syndicated loans, at the quoted bid price, which are non-binding. In valuing these assets, the Company assesses trading activity in an asset class and evaluates variances in prices and other market insights to determine if any available quoted prices are reliable. If the Company concludes that quotes based on active markets or trading activity may be relied upon, firm bid prices are requested; however, if a firm bid price is unavailable, the Company bases the value of the security upon the indicative bid price (“IBP”) offered by the respective originating syndication agent’s trading desk, or secondary desk, on or near the valuation date. To the extent that the Company uses the IBP as a basis for valuing the security, the Adviser may take further steps to consider additional information to validate that price in accordance with the Policy.
In the event these limited markets become illiquid to a degree that market prices are no longer readily available, the Company will value its syndicated loans using alternative methods, such as estimated net present values of
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the future cash flows or discounted cash flows (“DCF”). The use of a DCF methodology follows that prescribed by the Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) 820, “Fair Value Measurements and Disclosures,” which provides guidance on the use of a reporting entity’s own assumptions about future cash flows and risk-adjusted discount rates when relevant observable inputs, such as quotes in active markets, are not available. When relevant observable market data does not exist, an alternative outlined in ASC 820 is the valuation of investments based on DCF. For the purposes of using DCF to provide fair value estimates, the Company considers multiple inputs, such as a risk-adjusted discount rate that incorporates adjustments that market participants would make both for nonperformance and liquidity risks. As such, the Company develops a modified discount rate approach that incorporates risk premiums including, among other things, increased probability of default, higher loss given default or increased liquidity risk. The DCF valuations applied to the syndicated loans provide an estimate of what the Company believes a market participant would pay to purchase a syndicated loan in an active market, thereby establishing a fair value. The Company will apply the DCF methodology in illiquid markets until quoted prices are available or are deemed reliable based on trading activity.
As of December 31 and September 30, 2011, the Company determined that the indicative bid prices were reliable indicators of fair value for its syndicate investments. However, because of the private nature of this marketplace (meaning actual transactions are not publicly reported), the Company determined that these valuation inputs were classified as Level 3 within the fair value hierarchy as defined in ASC 820.
Securities for which no market exists: The valuation methodology for securities for which no market exists falls into four categories: (A) portfolio investments comprised solely of debt securities; (B) portfolio investments in controlled companies comprised of a bundle of securities, which can include debt and equity securities; (C) portfolio investments in non-controlled companies comprised of a bundle of investments, which can include debt and equity securities; and (D) portfolio investments comprised of non-publicly traded non-control equity securities of other funds.
| (A) | Portfolio investments comprised solely of debt securities: Debt securities that are not publicly traded on an established securities market, or for which a limited market does not exist (“Non-Public Debt Securities”), and that are issued by portfolio companies in which the Company has no equity, or equity-like securities, are fair valued utilizing opinions of value submitted to the Company by Standard & Poor’s Securities Evaluations, Inc. (“SPSE”). The Company may also submit paid-in-kind (“PIK”) interest to SPSE for its evaluation when it is determined that PIK interest is likely to be received. |
| (B) | Portfolio investments in controlled companies comprised of a bundle of investments, which can include debt and equity securities: The fair value of these investments is determined based on the total enterprise value (“TEV”) of the portfolio company, or issuer, utilizing a liquidity waterfall approach under ASC 820 for the Company’s Non-Public Debt Securities and equity or equity-like securities (e.g., preferred equity, common equity or other equity-like securities) that are purchased together as part of a package, where the Company has control or could gain control through an option or warrant security; both the debt and equity securities of the portfolio investment would exit in the mergers and acquisitions market as the principal market, generally through a sale of the portfolio company. In accordance with ASC 820, the Company applies the in-use premise of value, which assumes the debt and equity securities are sold together. Under this liquidity waterfall approach, the Company first calculates the TEV of the issuer by incorporating some or all of the following factors: |
| • | the issuer’s ability to make payments; |
| • | the earnings of the issuer; |
| • | recent sales to third parties of similar securities; |
| • | the comparison to publicly traded securities; and |
| • | DCF or other pertinent factors. |
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In gathering the sales to third parties of similar securities, the Company may reference industry statistics and use outside experts. TEV is only an estimate of value and may not be the value received in an actual sale. Once the Company has estimated the TEV of the issuer, the Company will subtract the value of all the debt securities of the issuer, which are valued at the contractual principal balance. Fair values of these debt securities are discounted for any shortfall of TEV over the total debt outstanding for the issuer. Once the values for all outstanding senior securities, which include all the debt securities, have been subtracted from the TEV of the issuer, the remaining amount, if any, is used to determine the value of the issuer’s equity or equity-like securities. If, in the Adviser’s judgment, the liquidity waterfall approach does not accurately reflect the value of the debt component, the Adviser may recommend that the Company use a valuation by SPSE, or, if that is unavailable, a DCF valuation technique.
| (C) | Portfolio investments in non-controlled companies comprised of a bundle of investments, which can include debt and equity securities: The Company values Non-Public Debt Securities that are purchased together with equity or equity-like securities from the same portfolio company, or issuer, for which the Company does not control or cannot gain control as of the measurement date, using a hypothetical secondary market as the Company’s principal market. In accordance with ASC 820, the Company determines its fair value of these debt securities of non-control investments assuming the sale of an individual debt security using the in-exchange premise of value. As such, the Company estimates the fair value of the debt component using estimates of value provided by SPSE and its own assumptions in the absence of observable market data, including synthetic credit ratings, estimated remaining life, current market yield and interest rate spreads of similar securities as of the measurement date. For equity or equity-like securities of investments for which the Company does not control or cannot gain control as of the measurement date, the Company estimates the fair value of the equity using the in-exchange premise of value based on factors such as the overall value of the issuer, the relative fair value of other units of account including debt, or other relative value approaches. Consideration is also given to capital structure and other contractual obligations that may impact the fair value of the equity. Furthermore, the Company may utilize comparable values of similar companies, recent investments and indices with similar structures and risk characteristics or DCF valuation techniques and, in the absence of other observable market data, its own assumptions. |
| (D) | Portfolio investments comprised of non-publicly traded non-control equity securities of other funds: The Company values any uninvested capital of the non-control fund at par value and values any invested capital at the value provided by the non-control fund. |
Due to the uncertainty inherent in the valuation process, such estimates of fair value may differ significantly and materially from the values that would have been obtained had a ready market for the securities existed. Additionally, changes in the market environment and other events that may occur over the life of the investments may cause the gains or losses ultimately realized on these investments to be different than the valuations currently assigned. There is no single standard for determining fair value in good faith, as fair value depends upon circumstances of each individual case. In general, fair value is the amount that the Company might reasonably expect to receive upon the current sale of the security in an orderly transaction between market participants at the measurement date.
Refer to Note 3 below for additional information regarding fair value measurements and the Company’s application of ASC 820.
Interest Income Recognition
Interest income, adjusted for amortization of premiums and acquisition costs, the accretion of discounts and the amortization of amendment fees, is recorded on the accrual basis to the extent that such amounts are expected to be collected. Generally, when a loan becomes 90 days or more past due, or if the Company’s qualitative assessment indicates that the debtor is unable to service its debt or other obligations, the Company will place the loan on non-accrual status and cease recognizing interest income on that loan until the borrower has
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demonstrated the ability and intent to pay contractual amounts due. However, the Company remains contractually entitled to this interest. Interest payments received on non-accrual loans may be recognized as income or applied to the cost basis, depending upon management’s judgment. Generally, non-accrual loans are restored to accrual status when past due principal and interest are paid and, in management’s judgment, are likely to remain current, or due to a restructuring such that the interest income is deemed to be collectable. At December 31, 2011, six investments were on non-accrual with an aggregate debt cost basis of $28.8 million, or 8.0% of the cost basis of all debt investments in the Company’s portfolio, and an aggregate fair value of $3.2 million, or 1.1% of the fair value of all debt investments in the Company’s portfolio. At September 30, 2011, eight investments were on non-accrual with an aggregate debt cost basis of $41.1 million, or 11.0% of the cost basis of all debt investments in the Company’s portfolio, and an aggregate fair value of $5.3 million, or 1.8% of the fair value of all debt investments in the Company’s portfolio.
As of December 31 and September 30, 2011, the Company had 27 original issue discount (“OID”) loans, primarily from the syndicated loans in its portfolio. The Company recorded OID income of $82 and $25 for the three months ended December 31, 2011 and 2010, respectively. The unamortized balance of OID investments as of December 31 and September 30, 2011 totaled $1.4 million and $1.5 million, respectively.
As of December 31 and September 30, 2011, the Company had no investments that bore PIK interest. PIK interest, computed at the contractual rate specified in the loan agreement, is added to the principal balance of the loan and recorded as income. To maintain the Company’s status as a RIC, this non-cash source of income must be paid out to common stockholders in the form of distributions, even though the Company has not yet collected the cash. The Company recorded PIK income of $0 and $4 for the three months ended December 31, 2011 and 2010, respectively.
Other Income Recognition
The Company records success fees upon receipt. Success fees are contractually due upon a change of control in a portfolio company and are recorded in other income in the accompanying Condensed Consolidated Statements of Operations. The Company did not record any success fees during the three months ended December 31, 2011. During the three months ended December 31, 2010, the Company received $0.2 million in success fees, which resulted from the exit and payoff of Interfilm Corp.
Recent Accounting Pronouncements
In May 2011, the FASB issued Accounting Standards Update No. 2011-04, “Fair Value Measurement (Topic 820): Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and IFRSs,” (“ASU 2011-04”) which results in a consistent definition of fair value and common requirements for measurement of and disclosure about fair value between GAAP and IFRS. ASU 2011-04 is effective for interim and annual periods beginning after December 15, 2011. The Company is currently assessing the potential impact that the adoption of ASU 2011-04 may have on the Company’s financial position and results of operations.
NOTE 3. INVESTMENTS
ASC 820 defines fair value, establishes a framework for measuring fair value and expands disclosures about assets and liabilities measured at fair value. ASC 820 provides a consistent definition of fair value that focuses on exit price in the principal, or most advantageous, market and prioritizes, within a measurement of fair value, the use of market-based inputs over entity-specific inputs. ASC 820 also establishes the following three-level hierarchy for fair value measurements based upon the transparency of inputs to the valuation of an asset or liability as of the measurement date.
| • | Level 1 — inputs to the valuation methodology are quoted prices (unadjusted) for identical assets or liabilities in active markets; |
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| • | Level 2 — inputs to the valuation methodology include quoted prices for similar assets and liabilities in active or inactive markets, and inputs that are observable for the asset or liability, either directly or indirectly, for substantially the full term of the financial instrument. Level 2 inputs are in those markets for which there are few transactions, the prices are not current, little public information exists or instances where prices vary substantially over time or among brokered market makers; and |
| • | Level 3— inputs to the valuation methodology are unobservable and significant to the fair value measurement. Unobservable inputs are those inputs that reflect assumptions that market participants would use when pricing the asset or liability and can include the Company’s own assumptions based upon the best available information. |
As of December 31 and September 30, 2011, all of the Company’s investments were valued using Level 3 inputs. The Company transfers investments in and out of Level 1, 2 and 3 securities as of the beginning balance sheet date, based on changes in the use of observable and unobservable inputs utilized to perform the valuation for the period. During the three months ended December 31, 2011 and 2010, there were no transfers in or out of Level 3.
The following tables present the investments carried at fair value as of December 31 and September 30, 2011, by caption on the accompanying Condensed Consolidated Statements of Assets and Liabilities, all of which are valued using level 3 inputs:
| Level 3 – Investments | ||||||||
| Total Fair Value Reported in | ||||||||
| Condensed Consolidated Statements of Assets and Liabilities |
||||||||
| December 31, 2011 | September 30, 2011 | |||||||
| Non-Control/Non-Affiliate Investments |
||||||||
| Senior term debt |
$ | 177,494 | $ | 182,002 | ||||
| Senior subordinated term debt |
67,998 | 72,182 | ||||||
| Preferred equity |
581 | 566 | ||||||
| Common equity/equivalents |
2,759 | 2,552 | ||||||
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| Total Non-Control/Non-Affiliate Investments |
$ | 248,832 | $ | 257,302 | ||||
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| Control Investments |
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| Senior term debt |
$ | 15,327 | $ | 18,143 | ||||
| Senior subordinated term debt |
20,006 | 19,966 | ||||||
| Common equity/equivalents |
8,681 | 7,536 | ||||||
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|
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| Total Control Investments |
$ | 44,014 | $ | 45,645 | ||||
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| Total Investments at Fair Value |
$ | 292,846 | $ | 302,947 | ||||
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Changes in Level 3 Fair Value Measurements of Investments
The following tables provide a roll-forward in the changes in fair value, broken out by major security type, during the three months ended December 31, 2011 and 2010 for all investments for which the Company determines fair value using unobservable (Level 3) factors. When a determination is made to classify a financial instrument within Level 3 of the valuation hierarchy, the determination is based upon the significance of the unobservable factors to the overall fair value measurement. However, Level 3 financial instruments typically include, in addition to the unobservable, or Level 3, inputs, observable inputs (that is, components that are actively quoted and can be validated to external sources). In these cases, the Company categorizes all of the inputs as the lowest level input within the hierarchy. Accordingly, the gains and losses in the tables below include changes in fair value, due in part to observable factors that are part of the valuation methodology.
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Fair value measurements using significant unobservable inputs (Level 3)
| Three months ended December 31, 2011: | Senior Term Debt |
Senior Subordinated Term Debt |
Preferred Equity |
Common Equity/ Equivalents |
Total | |||||||||||||||
| Fair value as of September 30, 2011 |
$ | 200,145 | $ | 92,148 | $ | 566 | $ | 10,088 | $ | 302,947 | ||||||||||
| Total gains or losses |
||||||||||||||||||||
| Net realized loss (a) |
(8,400 | ) | — | — | — | (8,400 | ) | |||||||||||||
| Net unrealized (depreciation) appreciation (b) |
(8,836 | ) | (1,244 | ) | (586 | ) | 1,352 | (9,314 | ) | |||||||||||
| Reversal of prior period net depreciation on realization (b) |
11,113 | 444 | — | — | 11,557 | |||||||||||||||
| New investments, repayments and settlements (c) |
||||||||||||||||||||
| Issuances/originations |
7,830 | 2,820 | 601 | — | 11,251 | |||||||||||||||
| Settlements/repayments |
(4,542 | ) | (6,164 | ) | — | — | (10,706 | ) | ||||||||||||
| Sales |
(4,489 | ) | — | — | — | (4,489 | ) | |||||||||||||
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| Fair value as of December 31, 2011 |
$ | 192,821 | $ | 88,004 | $ | 581 | $ | 11,440 | $ | 292,846 | ||||||||||
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| Three months ended December 31, 2010: | Senior Term Debt |
Senior Subordinated Term Debt |
Preferred Equity |
Common Equity/ Equivalents |
Total | |||||||||||||||
| Fair value as of September 30, 2010 |
$ | 172,596 | $ | 81,899 | $ | 386 | $ | 2,228 | $ | 257,109 | ||||||||||
| Total gains or losses |
||||||||||||||||||||
| Net unrealized (depreciation) |
(5,949 | ) | (476 | ) | 137 | 2,840 | (3,448 | ) | ||||||||||||
| Reversal of prior period net depreciation x on realization (b) |
19 | 732 | — | (247 | ) | 504 | ||||||||||||||
| New investments, repayments and settlements (c) |
||||||||||||||||||||
| Issuances/originations |
9,397 | 2,084 | — | 317 | 11,798 | |||||||||||||||
| Settlements/repayments |
(6,181 | ) | (7,240 | ) | — | — | (13,421 | ) | ||||||||||||
| Sales |
— | — | — | (37 | ) | (37 | ) | |||||||||||||
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| Fair value as of December 31, 2010 |
$ | 169,882 | $ | 76,999 | $ | 523 | $ | 5,101 | $ | 252,505 | ||||||||||
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| (a) | Included in net realized loss on investments on the accompanying Condensed Consolidated Statements of Operations for the three months ended December 31, 2011. |
| (b) | Included in net unrealized appreciation (depreciation) on investments on the accompanying Condensed Consolidated Statements of Operations for the three months ended December 31, 2011 and 2010. |
| (c) | Includes increases in the cost basis of investments resulting from new portfolio investments, the amortization of discounts, premiums and closing fees as well as decreases in the cost basis of investments resulting from principal repayments or sales. |
Non-Control/Non-Affiliate Investments
As of December 31 and September 30, 2011, the Company held 48 and 50 Non-Control/Non-Affiliate investments in the aggregate of $248.8 million and $257.3 million, at fair value, respectively. Of these, the Company had a total of 24 syndicate loans in the aggregate of $89.2 million and $90.7 million, at fair value, as of December 31 and September 30, 2011, respectively. During the three months ended December 31, 2011, the Company funded $1.6 million to one new Non-Control/Non-Affiliate investment. Additionally, $6.4 million was funded to existing Non-Control/Non-Affiliate portfolio companies and there was one early payoff by a Non-Control/Non-Affiliate portfolio company totaling $6.1 million during the three months ended December 31,
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2011. The following sales and restructures of Non-Control/Non-Affiliate investments occurred during the three months ended December 31, 2011:
| • | KMBQ Corporation – In November 2011, the Company invested $1.6 million in Ohana Media Group (“Ohana”) to facilitate its purchase of certain of KMBQ Corporation’s (“KMBQ”) assets out of receivership. In connection with this transaction, the Company received net proceeds of $1.2 million and recorded a realized loss during the three months ended December 31, 2011 totaling $1.0 million. Ohana replaced KMBQ on the Company’s Condensed Consolidated Schedule of Investments as a Non-Control/Non-Affiliate investment at December 31, 2011. |
| • | Newhall Holdings, Inc. – In December 2011, the Company sold its investments in Newhall Holdings, Inc. (“Newhall”) for net proceeds of $3.3 million, which resulted in a realized loss of $7.4 million recorded in the three months ended December 31, 2011. |
Control Investments
As of December 31 and September 30, 2011, the Company held nine Control investments in the aggregate of $44.0 million and $45.6 million, at fair value, respectively. During the three months ended December 31, 2011, five Control investments made draws on their lines of credit, totaling $2.6 million. Effective October 1, 2011, the Company restructured Sunshine Media Holdings (“Sunshine”), by reducing the interest rates on the line of credit, senior term debt and LOT senior term debt to preserve capital at the portfolio company to further enable Sunshine to invest in new and existing initiatives. In addition, the Company funded $0.6 million to Sunshine through an additional preferred equity investment. The Company did not exit any Control investments during the three months ended December 31, 2011.
Investment Concentrations
As of December 31, 2011, the Company’s investment portfolio consisted of loans to 57 companies in 27 states in 23 different industries with an aggregate fair value of $292.8 million. As of December 31, 2011, there were 24 syndicated investments totaling $90.3 million at cost and $89.2 million at fair value, or 24.4% and 30.5% of the total aggregate portfolio, respectively.
The following table outlines the Company’s investments by security type as of December 31 and September 30, 2011:
| December 31, 2011 | September 30, 2011 | |||||||||||||||||||||||||||||||
| Cost | Fair Value | Cost | Fair Value | |||||||||||||||||||||||||||||
| Senior term debt |
$ | 256,891 | 69.3 | % | $ | 192,821 | 65.8 | % | $ | 266,491 | 69.6 | % | $ | 200,145 | 66.1 | % | ||||||||||||||||
| Senior subordinated term debt |
103,795 | 28.0 | 88,004 | 30.1 | 107,140 | 28.0 | 92,148 | 30.4 | ||||||||||||||||||||||||
| Common equity/equivalents |
6,264 | 1.7 | 11,440 | 3.9 | 7,999 | 2.1 | 10,088 | 3.3 | ||||||||||||||||||||||||
| Preferred equity |
3,520 | 1.0 | 581 | 0.2 | 1,185 | 0.3 | 566 | 0.2 | ||||||||||||||||||||||||
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| Total investments |
$ | 370,470 | 100.0 | % | $ | 292,846 | 100.0 | % | $ | 382,815 | 100.0 | % | $ | 302,947 | 100.0 | % | ||||||||||||||||
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Investments at fair value consisted of the following industry classifications at December 31 and September 30, 2011:
| December 31, 2011 | September 30, 2011 | |||||||||||||||
| Industry Classification |
Fair Value | Percentage of Total Investments |
Fair Value | Percentage of Total Investments |
||||||||||||
| Electronics |
$ | 45,621 | 15.6 | % | $ | 45,752 | 15.1 | % | ||||||||
| Mining, steel, iron & non-precious metals |
34,430 | 11.8 | 33,734 | 11.1 | ||||||||||||
| Healthcare, education & childcare |
34,261 | 11.7 | 34,106 | 11.3 | ||||||||||||
| Automobile |
26,793 | 9.1 | 25,768 | 8.5 | ||||||||||||
| Broadcast (TV & radio) |
23,855 | 8.1 | 28,194 | 9.3 | ||||||||||||
| Retail stores |
19,415 | 6.6 | 19,340 | 6.4 | ||||||||||||
| Aerospace & defense |
15,133 | 5.2 | 10,003 | 3.3 | ||||||||||||
| Printing & publishing |
14,766 | 5.0 | 17,623 | 5.8 | ||||||||||||
| Textiles & leather |
9,602 | 3.3 | 9,626 | 3.2 | ||||||||||||
| Diversified/conglomerate manufacturing |
8,847 | 3.0 | 8,790 | 2.9 | ||||||||||||
| Machinery |
8,145 | 2.8 | 8,696 | 2.9 | ||||||||||||
| Buildings & real estate |
7,814 | 2.7 | 10,275 | 3.4 | ||||||||||||
| Personal, food and miscellaneous services |
7,761 | 2.7 | 7,635 | 2.5 | ||||||||||||
| Beverage, food & tobacco |
7,313 | 2.5 | 7,332 | 2.4 | ||||||||||||
| Personal & non-durable consumer products |
6,589 | 2.2 | 6,962 | 2.3 | ||||||||||||
| Leisure, amusement, movies & entertainment |
6,010 | 2.1 | 6,607 | 2.2 | ||||||||||||
| Home & office furnishings |
3,840 | 1.3 | 9,715 | 3.2 | ||||||||||||
| Diversified/conglomerate service |
3,800 | 1.3 | 3,810 | 1.3 | ||||||||||||
| Diversified natural resources, precious metals & minerals |
2,994 | 1.0 | 3,054 | 1.0 | ||||||||||||
| Other (A) |
5,857 | 2.0 | 5,925 | 1.9 | ||||||||||||
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| Total investments |
$ | 292,846 | 100.0 | % | $ | 302,947 | 100.0 | % | ||||||||
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| (A) | No individual industry within this category exceeds 1%. |
The investments at fair value were included in the following geographic regions of the United States at December 31 and September 30, 2011:
| December 31, 2011 | September 30, 2011 | |||||||||||||||
| Geographic Region |
Fair Value | Percent of Total Investments |
Fair Value | Percentage of Total Investments |
||||||||||||
| Midwest |
$ | 139,088 | 47.5 | % | $ | 144,292 | 47.6 | % | ||||||||
| West |
70,798 | 24.2 | 70,862 | 23.4 | ||||||||||||
| South |
49,372 | 16.8 | 52,265 | 17.3 | ||||||||||||
| Northeast |
26,268 | 9.0 | 28,158 | 9.3 | ||||||||||||
| Other |
7,320 | 2.5 | 7,370 | 2.4 | ||||||||||||
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| Total Investments |
$ | 292,846 | 100.0 | % | $ | 302,947 | 100.0 | % | ||||||||
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The geographic region reflects the location of the headquarters of the Company’s portfolio companies. A portfolio company may have a number of other business locations in other geographic regions.
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Investment Principal Repayments
The following table summarizes the contractual principal repayments and maturity of the Company’s investment portfolio by fiscal year, assuming no voluntary prepayments, at December 31, 2011:
| Amount | ||||||
| For the remaining nine months ending September 30: |
2012 | $ | 41,749 | |||
| For the fiscal year ending September 30: | 2013 | 118,899 | ||||
| 2014 | 34,488 | |||||
| 2015 | 31,708 | |||||
| 2016 | 75,867 | |||||
| Thereafter | 59,427 | |||||
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| Total contractual repayments |
$ | 362,138 | ||||
| Investments in equity securities | 9,784 | |||||
| Adjustments to cost basis on debt securities | (1,452 | ) | ||||
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| Total cost basis of investments held at December 31, 2011: |
$ | 370,470 | ||||
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Receivables from Portfolio Companies
Receivables from portfolio companies represent non-recurring costs incurred on behalf of portfolio companies and are included in other assets on the accompanying Condensed Consolidated Statements of Assets and Liabilities. The Company maintains an allowance for uncollectible receivables from portfolio companies, which is determined based on historical experience and management’s expectations of future losses. The Company charges the accounts receivable to the established provision when collection efforts have been exhausted and the receivables are deemed uncollectible. As of December 31 and September 30 2011, the Company had gross receivables from portfolio companies of $0.6 million and $0.8 million, respectively. The allowance for uncollectible receivables was $0.2 million and $0.4 million as of December 31 and September 30, 2011, respectively. In addition, the Company recorded an allowance for uncollectible interest receivable of $21 and $65 as of December 31 and September 30, 2011, respectively.
NOTE 4. RELATED PARTY TRANSACTIONS
Loans to Former Employees
The Company has outstanding loans to certain employees of the Adviser, each of whom was a joint employee of the Adviser (or the Company’s previous adviser, Gladstone Capital Advisers, Inc.) and the Company at the time the loans were originally provided. The loans were extended to such employees to allow them to exercise options granted under the Amended and Restated 2001 Equity Incentive Plan, which has since been terminated. The loans require the quarterly payment of interest at the market rate in effect at the date of issuance, have varying terms not exceeding ten years and have been recorded as a reduction of net assets. The loans are evidenced by full recourse notes that are due upon maturity or 60 days following termination of employment, and the shares of common stock purchased with the proceeds of the loans are posted as collateral. The Company received $3 and $0 of principal repayments during the three months ended December 31, 2011 and 2010, respectively. Additionally, one employee redeemed 20,000 shares to pay off $0.2 million of principal on his outstanding loan during the quarter ended December 31, 2011. The Company recognized interest income from all employee loans of $0.1 million for both the three months ended December 31, 2011 and 2010. Refer to Note 7–Common Stock for additional information related to these transactions.
Investment Advisory and Management Agreement
The Company has entered into an investment advisory and management agreement with the Adviser (the “Advisory Agreement”), which is controlled by the Company’s chairman and chief executive officer. In
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accordance with the Advisory Agreement, the Company pays the Adviser certain fees as compensation for its services, such fees consisting of a base management fee and an incentive fee. On July 12, 2011, the Board of Directors approved the renewal of the Advisory Agreement through August 31, 2012.
The following table summarizes the management fees, incentive fees and associated credits reflected in the accompanying Condensed Consolidated Statements of Operations:
| Three Months Ended December 31, | ||||||||
| 2011 | 2010 | |||||||
| Average total assets subject to base management fee (A) |
$ | 311,200 | $ | 269,408 | ||||
| Multiplied by prorated annual base management fee of 2.0% |
0.5 | % | 0.5 | % | ||||
|
|
|
|
|
|||||
| Gross base management fee |
1,556 | 1,347 | ||||||
| Reduction for loan servicing fees (B) |
(959 | ) | (842 | ) | ||||
|
|
|
|
|
|||||
| Base management fee (B) |
597 | 505 | ||||||
| Credit for fees received by Adviser from the portfolio companies |
(47 | ) | — | |||||
| Fee reduction for the voluntary, irrevocable waiver of 2% fee on senior syndicated loans to 0.5% per annum |
(125 | ) | (52 | ) | ||||
|
|
|
|
|
|||||
| Net base management fee |
$ | 425 | $ | 453 | ||||
|
|
|
|
|
|||||
| Gross incentive fee (B) |
$ | 1,035 | $ | 1,159 | ||||
| Credit from voluntary, irrevocable waiver issued by Adviser’s board of directors |
(278 | ) | — | |||||
|
|
|
|
|
|||||
| Net incentive fee |
$ | 757 | $ | 1,159 | ||||
|
|
|
|
|
|||||
| Credit for fees received by Adviser from the portfolio companies |
$ | (47 | ) | $ | — | |||
| Fee reduction for the voluntary, irrevocable waiver of 2% fee on senior syndicated loans to 0.5% per annum |
(125 | ) | (52 | ) | ||||
| Incentive fee credit |
(278 | ) | — | |||||
|
|
|
|
|
|||||
| Credit to base management and incentive fees from Adviser (B) |
$ | (450 | ) | $ | (52 | ) | ||
|
|
|
|
|
|||||
| (A) | Average total assets subject to the base management fee is defined as total assets, including investments made with proceeds of borrowings, less any uninvested cash and cash equivalents resulting from borrowings, valued at the end of the four most recently completed quarters and appropriately adjusted for any share issuances or repurchases during the applicable year. |
| (B) | Reflected as a line item in the Condensed Consolidated Statements of Operations. |
Base Management Fee
The base management fee is payable quarterly and assessed at an annual rate of 2.0%, computed on the basis of the value of the Company’s average gross assets at the end of the two most recently completed quarters, which are total assets, including investments made with proceeds of borrowings, less any cash or cash equivalents resulting from borrowings. In addition, the following three items are adjustments to the base management fee calculation.
| • | Loan Servicing Fees |
The Adviser also services the loans held by Business Loan, in return for which it receives a 1.5% annual fee, based on the monthly aggregate outstanding balance of loans pledged under the Company’s line of credit.
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Since the Company owns these loans, all loan servicing fees paid to the Adviser are treated as reductions directly against the 2.0% base management fee under the Advisory Agreement.
| • | Senior Syndicated Loan Fee Waiver |
The Board of Directors accepted an unconditional and irrevocable voluntary waiver from the Adviser to reduce the annual 2.0% base management fee on senior syndicated loan participations to 0.5%, to the extent that proceeds resulting from borrowings were used to purchase such senior syndicated loan participations, for the three months ended December 31, 2011 and 2010.
| • | Portfolio Company Fees |
Under the Advisory Agreement, the Adviser has also provided, and continues to provide, managerial assistance and other services to the Company’s portfolio companies and may receive fees for services other than managerial assistance. 50% of certain of these fees, and 100% of other fees are credited against the base management fee that the Company would otherwise be required to pay to the Adviser.
Incentive Fee
The incentive fee consists of two parts: an income-based incentive fee and a capital gains-based incentive fee. The income-based incentive fee rewards the Adviser if the Company’s quarterly net investment income (before giving effect to any incentive fee) exceeds 1.75% of the Company’s net assets (the “hurdle rate”). The Company will pay the Adviser an income-based incentive fee with respect to the Company’s pre-incentive fee net investment income in each calendar quarter as follows:
| • | no incentive fee in any calendar quarter in which the Company’s pre-incentive fee net investment income does not exceed the hurdle rate (7.0% annualized); |
| • | 100% of the Company’s pre-incentive fee net investment income with respect to that portion of such pre-incentive fee net investment income, if any, that exceeds the hurdle rate but is less than 2.1875% in any calendar quarter (8.75% annualized); and |
| • | 20% of the amount of the Company’s pre-incentive fee net investment income, if any, that exceeds 2.1875% in any calendar quarter (8.75% annualized). |
The Company’s Board of Directors accepted an unconditional and irrevocable voluntary waiver from the Adviser to reduce the income-based incentive fee to the extent net investment income did not cover all distributions to common stockholders for the three months ended December 31, 2011 and 2010.
The second part of the incentive fee is a capital gains-based incentive fee that will be determined and payable in arrears as of the end of each fiscal year (or upon termination of the Advisory Agreement, as of the termination date) and equals 20% of the Company’s realized capital gains as of the end of the fiscal year. In determining the capital gains-based incentive fee payable to the Adviser, the Company will calculate the cumulative aggregate realized capital gains and cumulative aggregate realized capital losses since the Company’s inception, and the aggregate unrealized capital depreciation as of the date of the calculation, as applicable, with respect to each of the investments in the Company’s portfolio. For this purpose, cumulative aggregate realized capital gains, if any, equals the sum of the differences between the net sales price of each investment, when sold, and the original cost of such investment since the Company’s inception. Cumulative aggregate realized capital losses equals the sum of the amounts by which the net sales price of each investment, when sold, is less than the original cost of such investment since the Company’s inception. Aggregate unrealized capital depreciation equals the sum of the difference, if negative, between the valuation of each investment as of the applicable calculation date and the original cost of such investment. At the end of the applicable year, the amount of capital gains that serves as the basis for the Company’s calculation of the capital gains-based incentive fee equals the cumulative aggregate
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realized capital gains less cumulative aggregate realized capital losses, less aggregate unrealized capital depreciation, with respect to the Company’s portfolio of investments. If this number is positive at the end of such year, then the capital gains-based incentive fee for such year equals 20% of such amount, less the aggregate amount of any capital gains-based incentive fees paid in respect of the Company’s portfolio in all prior years. No capital gains-based incentive fee has recorded for the Company from its inception through December 31, 2011, as cumulative unrealized capital depreciation has exceeded cumulative realized capital gains net of cumulative realized capital losses.
Additionally, in accordance with GAAP, the Company did not accrue a capital gains-based incentive fee. This GAAP accrual is calculated using the aggregate cumulative realized capital gains and losses and aggregate cumulative unrealized capital depreciation included in the calculation of the capital gains-based incentive fee plus the aggregate cumulative unrealized capital appreciation. If such amount is positive at the end of a relevant period, then GAAP requires the Company to record a capital gains-based incentive fee equal to 20% of such amount, less the aggregate amount of actual capital gains-based incentive fees paid in all prior years. If such amount is negative, then there is no accrual for such year. GAAP requires that the capital gains-based incentive fee accrual consider the cumulative aggregate unrealized capital appreciation in the calculation, as a capital gains-based incentive fee would be payable if such unrealized capital appreciation were realized. There can be no assurance that such unrealized capital appreciation will be realized in the future. No GAAP accrual for a capital gains-based incentive fee has been recorded for the Company from its inception through December 31, 2011.
As a BDC, the Company makes available significant managerial assistance to its portfolio companies and provides other services to such portfolio companies. Although neither the Company nor its Adviser receive fees in connection with managerial assistance, the Adviser provides other services to the Company’s portfolio companies and receives fees for these other services.
Administration Agreement
The Company has entered into an administration agreement (the “Administration Agreement”) with Gladstone Administration, LLC (the “Administrator”), an affiliate of the Adviser, whereby it pays separately for administrative services. The Administration Agreement provides for payments equal to the Company’s allocable portion of the Administrator’s overhead expenses in performing its obligations under the Administration Agreement, including, but not limited to, rent and the salaries and benefits expenses of the Company’s chief financial officer, chief compliance officer, treasurer, internal counsel and their respective staffs. The Company’s allocable portion of administrative expenses is generally derived by multiplying the Administrator’s total allocable expenses by the percentage of the Company’s total assets at the beginning of the quarter in comparison to the total assets at the beginning of the quarter of all companies managed by the Adviser under similar agreements. On July 12, 2011, the Board of Directors approved the renewal of the Administration Agreement through August 31, 2012.
Related Party Fees Due
Amounts due to related parties on the accompanying Condensed Consolidated Statements of Assets and Liabilities were as follows:
| As of December 31, 2011 | As of September 30, 2011 | |||||||
| Base management fee due to Adviser |
$ | 425 | $ | 330 | ||||
| Incentive fee due to Adviser |
757 | 1,203 | ||||||
| Loan servicing fee due to Adviser |
232 | 227 | ||||||
|
|
|
|
|
|||||
| Total fees due to Adviser |
1,414 | 1,760 | ||||||
|
|
|
|
|
|||||
| Fee due to Administrator |
195 | 194 | ||||||
|
|
|
|
|
|||||
| Total related party fees due |
$ | 1,609 | $ | 1,954 | ||||
|
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|
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|
|||||
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NOTE 5. BORROWINGS
Line of Credit
On March 15, 2010, the Company, through its wholly-owned subsidiary, Business Loan, entered into a fourth amended and restated credit agreement, which provided for a $127.0 million revolving line of credit arranged by Key Equipment Finance Inc. (“Keybank”) as administrative agent (the “Credit Facility”). Branch Banking and Trust Company (“BB&T”) and ING Capital LLC (“ING”) also joined the Credit Facility as committed lenders. Subject to certain terms and conditions, the Credit Facility may be expanded to a maximum of $202.0 million through the addition of other committed lenders to the facility. On November 22, 2010 (the “Amendment Date”), the Company amended its Credit Facility. Prior to the Amendment Date, advances under the Credit Facility bore interest at a 30-day London Interbank Offered Rate (“LIBOR”) subject to a minimum rate of 2.0%, plus 4.5% per annum, with a commitment fee of 0.5% per annum on undrawn amounts. As of the Amendment Date, advances under the Credit Facility bear interest at a 30-day LIBOR or commercial paper rate (subject to a minimum rate of 1.5%), plus 3.75% per annum, with a commitment fee of 0.5% per annum on undrawn amounts when the facility is drawn more than 50% and 1.0% per annum on undrawn amounts when the facility is drawn less than 50%. During the three months ended December 31, 2010, the Company reversed the projected annual minimum earnings shortfall fee of $0.6 million that had been accrued as of September 30, 2010. The Company paid a $0.7 million fee in connection with the November 2010 amendment. On August 9, 2011, ING, increased its commitment by $10.0 million, bring the total revolving line of credit to $137.0 million. All other terms of the existing line of credit remained the same.
The following tables summarize noteworthy information related to the Credit Facility at cost:
| As of December 31, 2011 |
As of September 30, 2011 |
|||||||
| Commitment amount |
$ | 137,000 | $ | 137,000 | ||||
| Borrowings outstanding (A) |
56,900 | 99,400 | ||||||
| Availability |
61,900 | 24,700 | ||||||
| Three Months
Ended December 31, |
||||||||
| 2011 | 2010 | |||||||
| Weighted average borrowings outstanding |
$ | 74,263 | $ | 19,883 | ||||
| Effective interest rate(B) |
6.0 | % | 6.7 | % | ||||
| Commitment fees incurred |
$ | 141 | $ | 184 | ||||
| (A) | The December 31, 2011 balance decreased significantly due to repayments with the proceeds of the Term Preferred Stock offering in November. |
| (B) | Excludes the impact of deferred financing fees. |
Interest is payable monthly during the term of the Credit Facility. Available borrowings are subject to various constraints imposed under the Credit Facility, based on the aggregate loan balance pledged by Business Loan, which varies as loans are added and repaid, regardless of whether such repayments are prepayments or made as contractually required.
The administrative agent also requires that any interest or principal payments on pledged loans be remitted directly by the borrower into a lockbox account with Keybank as custodian. Keybank, who also serves as the trustee of the account, generally remits the collected funds to the Company once a month.
The Credit Facility contains covenants that require Business Loan to maintain its status as a separate legal entity, prohibit certain significant corporate transactions (such as mergers, consolidations, liquidations or dissolutions), and restrict material changes to the Company’s credit and collection policies. The Credit Facility also limits
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payments on distributions to the aggregate net investment income for each of the twelve month periods ended September 30, 2012 and 2011. Business Loan is also subject to certain limitations on the type of loan investments it can apply toward availability credit in the borrowing base, including restrictions on geographic concentrations, sector concentrations, loan size, dividend payout, payment frequency and status, average life and lien property. The Credit Facility further requires Business Loan to comply with other financial and operational covenants, which obligate Business Loan to, among other things, maintain certain financial ratios, including asset and interest coverage and a minimum number of obligors required in the borrowing base of the credit agreement. Additionally, the Company is subject to a performance guaranty that requires it to maintain (i) a minimum net of $200.0 million plus 50.0% of all equity and subordinated debt raised after May 15, 2009, (ii) “asset coverage” with respect to “senior securities representing indebtedness” of at least 200%, in accordance with Section 18 of the 1940 Act and (iii) its status as a BDC under the 1940 Act and as a RIC under the Code. The facility requires a minimum of 20 obligors in the borrowing base and as of December 31, 2011, Business Loan had 40 obligors. As of December 31, 2011, the Company was in compliance with all of the facility covenants.
Refer to Note 12—Subsequent Events, for subsequent renewal of the Credit Facility in January 2012 and the new maturity date of January 18, 2015.
Fair Value
The Company elected to apply ASC 825, “Financial Instruments,” specifically for the Credit Facility, which was consistent with its application of ASC 820 to its investments. Generally, the Company estimates the fair value of its Credit Facility using estimates of value provided by an independent third party and its own assumptions in the absence of observable market data, including estimated remaining life, counterparty credit risk, current market yield and interest rate spreads of similar securities as of the measurement date. As of December 31 and September 30, 2011, the Company’s Credit Facility was valued using Level 3 inputs.
The following tables present the Credit Facility carried at fair value as of December 31 and September 30, 2011, by caption on the accompanying Condensed Consolidated Statements of Assets and Liabilities for Level 3 of the hierarchy established by ASC 820 and a roll-forward in the changes in fair value of the Credit Facility during the three months ended December 31, 2011 and 2010:
| Level 3 – Borrowings under Credit Facility Total Fair Value Reported in Condensed Consolidated Statements of Assets and Liabilities |
||||||||
| December 31, 2011 | September 30, 2011 | |||||||
| Credit Facility |
$ | 57,213 | $ | 100,012 | ||||
|
|
|
|
|
|||||
Total Fair value Reported in Condensed Consolidated Statements of Assets and Liabilities
| Three Months Ended December 31, | ||||||||
| 2011 | 2010 | |||||||
| Fair value as of September 30, 2011 and 2010, respectively |
$ | 100,012 | $ | 17,940 | ||||
| Net unrealized depreciation (A) |
(299 | ) | (439 | ) | ||||
| Borrowings |
11,000 | 10,000 | ||||||
| Repayments |
(53,500 | ) | (2,200 | ) | ||||
|
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|
|
|
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| Fair value as of December 31, 2011 and 2010, respectively |
$ | 57,213 | $ | 25,301 | ||||
|
|
|
|
|
|||||
| (A) | Included in cumulative net unrealized appreciation on borrowings on the accompanying Condensed Consolidated Statements of Assets and Liabilities as of December 31 and September 30, 2011. |
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The fair value of the collateral under the Credit Facility was approximately $242.7 million and $256.9 million at December 31 and September 30, 2011, respectively.
NOTE 6. MANDATORILY REDEEMABLE PREFERRED STOCK
On November 4, 2011, the Company completed a public offering of 1.4 million shares of 7.125% Series 2016 Term Preferred Stock, par value $0.001 per share (“Term Preferred Stock”), at a public offering price of $25.00 per share. Gross proceeds totaled $35.0 million and net proceeds, after deducting underwriting discounts and offering expenses borne by the Company, were $33.0 million and were used to repay a portion of outstanding borrowings under the Credit Facility. In connection with the offering, the underwriters exercised their option to purchase an additional 139,882 shares of the Company’s Term Preferred Stock to cover over-allotments, which resulted in gross proceeds of $3.5 million and net proceeds, after deducting underwriting discounts, of $3.4 million. These proceeds were also used to repay a portion of the outstanding borrowings under the Credit Facility. The Company incurred $2.1 million in total offering costs related to these transactions, which have been recorded as deferred financing fees on the Condensed Consolidated Statements of Assets and Liabilities and will be amortized over the redemption period ending December 31, 2016.
The shares have a redemption date of December 31, 2016 and are traded under the ticker symbol of GLADPRA on the New York Stock Exchange. The Term Preferred Stock is not convertible into the Company’s common stock or any other security of the Company. The Term Preferred Stock provides for a fixed dividend equal to 7.125% per year, payable monthly (which equates to approximately $2.7 million per year). The Company is required to redeem all of the outstanding Term Preferred Stock on December 31, 2016 for cash at a redemption price equal to $25.00 per share plus an amount equal to accumulated but unpaid dividends, if any, to the date of redemption. In addition, there are two other potential redemption triggers: 1) if the Company fails to maintain an asset coverage ratio of at least 200%, it is required to redeem a portion of the outstanding Term Preferred Stock or has to cure the ratio redemption trigger and 2) at any time on or after December 31, 2012, at the Company’s sole option, it may redeem the Term Preferred Stock.
The Board of Directors declared the following monthly distributions to preferred stockholders for the three months ended December 31, 2011:
| Fiscal Year |
Time Period | Declaration Date | Record Date | Payment Date | Distribution per Term Preferred Share |
|||||||||||||||
| 2012 |
November 4 –30 | (A) | December 6, 2011 | December 16, 2011 | December 30, 2011 | $ | 0.13359375 | |||||||||||||
| December 1 - 31 | December 6, 2011 | December 16, 2011 | December 30, 2011 | 0.14843750 | ||||||||||||||||
|
|
|
|||||||||||||||||||
| Three Months Ended December 31, 2011: |
|
$ | 0.28203125 | |||||||||||||||||
|
|
|
|||||||||||||||||||
| (A) | November was prorated from the time the Term Preferred Stock was issued and outstanding as per the Company’s final prospectus supplement dated October 28, 2011. |
In accordance with ASC 480, “Distinguishing Liabilities from Equity,” mandatorily redeemable financial instruments should be classified as liabilities in the balance sheet and therefore the related dividend payments are treated as dividend expense on the statement of operations as of the ex-dividend date.
NOTE 7. COMMON STOCK
Registration Statement
On October 20, 2009, the Company filed a registration statement on Form N-2 (File No. 333-162592) that was amended on December 9, 2009 and which the SEC declared effective on January 28, 2010, and the Company filed post-effective amendments to such registration statement on April 7, 2011, June 15, 2011, and July 13,
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2011, which were declared effective by the SEC on July 15, 2011. The registration statement permits the Company to issue, through one or more transactions, up to an aggregate of $300.0 million in securities, consisting of common stock, preferred stock, subscription rights, debt securities and warrants to purchase common stock, including through a combined offering of such securities.
On May 17, 2010, the Company and the Adviser entered into an equity distribution agreement (the “Agreement”) with BB&T Capital Markets, a division of Scott & Stringfellow, LLC (the “Agent”), under which the Company may, from time to time, issue and sell through the Agent, as sales agent, up to 2.0 million shares (the “Shares”) of the Company’s common stock, par value $0.001 per share, based upon instructions from the Company (including, at a minimum, the number of shares to be offered, the time period during which sales are requested to be made, any limitation on the number of shares that may be sold in any one day and any minimum price below which sales may not be made). Sales of Shares through the Agent, if any, will be executed by means of either ordinary brokers’ transactions on the NASDAQ Global Select Market in accordance with Rule 153 under the Securities Act of 1933, as amended, or such other sales of the Shares as shall be agreed by the Company and the Agent. The compensation payable to the Agent for sales of Shares with respect to which the Agent acts as sales agent shall be equal to 2.0% of the gross sales price of the Shares for amounts of Shares sold pursuant to the Agreement. To date, the Company has not issued any shares pursuant to this Agreement.
During the quarter ended December 31, 2011, pursuant to the terms of the articles of incorporation, as amended, the Company’s Board of Directors approved reclassifying 4.0 million shares from common stock to preferred stock.
Employee Notes
The following table is a summary of all outstanding notes issued to employees of the Adviser for the exercise of stock options:
| Issue Date |
Number of Options Exercised |
Strike Price of Options Exercised |
Amount of Promissory Note Issued to Employees |
Outstanding Balance of Employee Loans at 12/31/11 |
Maturity Date |
Interest Rate on Note |
||||||||||||||||||
| Aug-01 |
393,334 | 15.00 | $ | 5,900 | (A) | $ | 2,749 | Aug-10 | 4.90 | % (B) | ||||||||||||||
| Aug-01 |
18,334 | 15.00 | 275 | (A) | 200 | Aug-10 | 4.90 | (B) | ||||||||||||||||
| Aug-01 |
18,334 | 15.00 | 275 | (C) | 77 | Aug-11 | 4.90 | (D) | ||||||||||||||||
| Sep-04 |
13,332 | 15.00 | 200 | 198 | Sep-13 | 5.00 | ||||||||||||||||||
| Jul-06 |
13,332 | 15.00 | 200 | 200 | Jul-15 | 8.26 | ||||||||||||||||||
| Jul-06 |
18,334 | 15.00 | 275 | 275 | Jul-15 | 8.26 | ||||||||||||||||||
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|
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|
|
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| 475,000 | $ | 7,125 | $ | 3,699 | ||||||||||||||||||||
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|
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| (A) | On September 7, 2010, the Company entered into redemption agreements (the “Redemption Agreements”) with David Gladstone, the Company’s Chairman and Chief Executive Officer, and Laura Gladstone, the daughter of Mr. Gladstone and an officer of the Adviser and one of the Company’s Managing Directors, in connection with the maturity of secured promissory notes executed by Mr. Gladstone and Ms. Gladstone in favor of the Company on August 23, 2001, in the principal amounts of $5.9 million and $0.3 million, respectively (collectively, the “Notes”). Mr. and Ms. Gladstone executed the Notes in payment of the exercise price of certain stock options (the “Options”) to acquire shares of the Company’s common stock. Concurrently with the execution of the Notes, the Company and Mr. and Ms. Gladstone entered into stock pledge agreements (collectively, the “Pledge Agreements”), pursuant to which Mr. and Ms. Gladstone granted to the Company a first priority security interest in the Pledged Collateral (as defined in the respective Pledge Agreements), which included 393,334 and 18,334 shares, respectively, of the Company’s common stock that Mr. and Ms. Gladstone acquired pursuant to the exercise of the Options (collectively, the “Pledged Shares”). An event of default was triggered under the Notes by virtue of Mr. and Ms. Gladstone’s failure to repay the amounts outstanding under the Notes within five business days of August 23, 2010. The |
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| Redemption Agreements provide that, pursuant to the terms and conditions thereof, the Company will automatically accept and retire the Pledged Shares in partial or full satisfaction, as applicable, of Mr. and Ms. Gladstone’s obligations to the Company under the Notes at such time, if ever, that the trading price of the Company’s common stock reaches $15 per share. In entering into the Redemption Agreements, the Company reserved all of its existing rights under the Notes and the Pledge Agreements, including, but not limited to, the ability to foreclose on the Pledged Collateral at any time. On March 30, 2011, June 27, 2011 and September 26, 2011, Mr. Gladstone paid down in the aggregate $3.2 million of the principal balance of his note, leaving a principal balance of $2.7 million outstanding as of December 31, 2011. In connection with these payments, the Company released its first priority security interest on 210,000 shares of Mr. Gladstone’s Pledged Shares, leaving a balance of 183,334 shares in Pledged Collateral from Mr. Gladstone as of December 31, 2011. On September 28, 2011, Ms. Gladstone paid down $0.1 million of the principal balance of her 2001 note, leaving a principal balance of $0.2 million outstanding on this note as of December 31, 2011. The principal balances under her 2006 notes remain unchanged at an aggregate balance of $0.5 million as of December 31, 2011. |
| (B) | An event of default was triggered under these Notes by virtue of Mr. and Ms. Gladstone’s failure to repay the amounts outstanding within five business days of August 23, 2010. As such, the Company charges a default rate of an additional 2% per annum under these Notes for all periods following default. |
| (C) | On December 20, 2011, the Company entered into an amended and restated redemption agreement with an employee of the Adviser in connection with the maturity of a secured promissory note executed by the employee in favor of the Company on August 23, 2001, in the principal amount of $0.3 million. Pursuant to the redemption agreement, on December 29, 2011, the Company redeemed 20,000 shares of the Company’s common stock that had been pledged as collateral on the employee note, resulting in a reduction of $0.2 million on the employee note, leaving a principal balance of $0.1 million as of December 31, 2011. |
| (D) | An event of default was triggered under the note by virtue of an employee of the Adviser’s failure to repay the amounts outstanding within five business days of August 23, 2011. As such, the Company charges a default rate of an additional 2% per annum under the note for all periods following default. |
In accordance with ASC 505, “Equity,” receivables from employees for the issuance of capital stock to employees prior to the receipt of cash payment should be reflected in the balance sheet as a reduction to stockholders’ equity. Therefore, these recourse notes were recorded as loans to employees and are included in the equity section of the accompanying Condensed Consolidated Statements of Assets and Liabilities. As of December 31, 2011, the Company determined that these notes were still recourse.
NOTE 8. NET (DECREASE) INCREASE IN NET ASSETS RESULTING FROM OPERATIONS PER COMMON SHARE
The following table sets forth the computation of basic and diluted net (decrease) increase in net assets resulting from operations per weighted average common share for the three months ended December 31, 2011 and 2010:
| Three Months Ended December 31, | ||||||||
| 2011 | 2010 | |||||||
| Numerator for basic and diluted net (decrease) increase in net assets resulting from operations per common share |
$ | (1,289 | ) | $ | 2,132 | |||
| Denominator for basic and diluted weighted average common shares |
21,038,590 | 21,039,242 | ||||||
|
|
|
|
|
|||||
| Basic and diluted net (decrease) increase in net assets resulting from operations per common share |
$ | (0.06 | ) | $ | 0.10 | |||
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NOTE 9. DISTRIBUTIONS TO COMMON STOCKHOLDERS
The Board of Directors declared the following monthly distributions to common stockholders for the three months ended December 31, 2011 and 2010:
| Fiscal Year |
Declaration Date | Record Date | Payment Date | Distribution
per Common Share |
||||||||
| 2012 |
October 11, 2011 | October 21, 2011 | October 31, 2011 | $ | 0.07 | |||||||
| October 11, 2011 | November 17, 2011 | November 30, 2011 | 0.07 | |||||||||
| October 11, 2011 | December 21, 2011 | December 30, 2011 | 0.07 | |||||||||
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|
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| Three Months Ended December 31, 2011: | $ | 0.21 | ||||||||||
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| 2011 |
October 5, 2010 | October 21, 2010 | October 29, 2010 | $ | 0.07 | |||||||
| October 5, 2010 | November 19, 2010 | November 30, 2010 | 0.07 | |||||||||
| October 5, 2010 | December 23, 2010 | December 31, 2010 | 0.07 | |||||||||
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| Three Months Ended December 31, 2010: | $ | 0.21 | ||||||||||
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Aggregate distributions declared and paid for the three months ended December 31, 2011 and 2010 were each approximately $4.4 million, which were declared based on estimates of net investment income for the respective fiscal years. The characterization of the distributions declared and paid for the fiscal year ended September 30, 2012 will be determined at year end and cannot be determined at this time. For the fiscal year ended September 30, 2011, taxable income available for distributions exceeded distributions declared and paid, and, in accordance with Section 855(a) of the Code, the Company elected to treat a portion of the first distribution paid in fiscal year 2012 as having been paid in the prior year.
NOTE 10. COMMITMENTS AND CONTINGENCIES
Legal Proceedings
The Company is party to certain legal proceedings incidental to the normal course of its business, including the enforcement of the Company’s rights under contracts with its portfolio companies. The Company is required to establish reserves for litigation matters where those matters present loss contingencies that are both probable and estimable. When loss contingencies are not both probable and estimable, the Company does not establish reserves. Based on current knowledge, the Company does not believe that loss contingencies, if any, arising from pending investigations, litigation or regulatory matters will have a material adverse effect on the Company’s financial condition or results of operation.
Escrow Holdbacks
The Company from time to time will enter into arrangements as it relates to exits of certain investments whereby specific amounts of the proceeds are held in escrow in order to be used to satisfy potential obligations as stipulated in the sales agreements. The Company records escrow amounts in restricted cash on the accompanying Condensed Consolidated Statements of Assets and Liabilities. The Company establishes a contingent liability against the escrow amounts if the Company determines that it is probable and estimable that a portion of the escrow amounts will not be ultimately received at the end of the escrow period. The aggregate contingent liability amounted recorded against the escrow amounts was $1.2 million and $0 as of December 31 and September 30, 2011, respectively, and is located in other liabilities on the accompanying Condensed Consolidated Statements of Assets and Liabilities.
Financial Commitments and Obligations
At December 31 and September 30, 2011, the Company was not party to any signed commitments for potential investments. However, the Company has lines of credit and capital commitments with certain of its portfolio
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companies that have not been fully drawn or called. Since these commitments have expiration dates and the Company expects many will never be fully drawn or called, the total commitment amounts do not necessarily represent future cash requirements.
In addition to the lines of credit and capital commitments with portfolio companies, the Company also extends certain guaranties on behalf of some of its portfolio companies during the normal course of business. At December 31 and September 30, 2011, the Company was not party to any signed guaranties.
The Company estimated the fair value of its unused line of credit and uncalled capital commitments as of December 31 and September 30, 2011 to be minimal; and therefore, they are not recorded on the accompanying Condensed Consolidated Statements of Assets and Liabilities.
The following table summarizes the dollar balances of unused line of credit commitments and uncalled capital commitments as of December 31 and September 30, 2011:
| As of December 31, 2011 |
As of September 30, 2011 |
|||||||
| Unused line of credit commitments |
$ | 10,519 | $ | 12,990 | ||||
| Uncalled capital commitment |
800 | 800 | ||||||
|
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|
|
|||||
| Total |
$ | 11,319 | $ | 13,790 | ||||
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|
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The following table shows the Company’s contractual obligations as of December 31, 2011 at cost:
| Payments Due by Period | ||||||||||||||||||||
| Contractual Obligations(A) |
Less than 1 Year |
1-3 Years | 4-5 Years | After 5 Years | Total | |||||||||||||||
| Credit Facility (B) |
$ | 56,900 | $ | — | $ | — | $ | — | $ | 56,900 | ||||||||||
| Term Preferred Stock, $0.001 par value, $25 liquidation preference; 4,000,000 authorized and 1,539,882 shares issued and outstanding |
— | — | 38,497 | — | 38,497 | |||||||||||||||
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|
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|
|
|
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| Total |
$ | 56,900 | $ | — | $ | 38,497 | $ | — | $ | 95,397 | ||||||||||
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| (A) | Excludes the unused or uncalled commitments to extend credit or capital to the Company’s portfolio companies in an aggregate amount of $11.3 million, as discussed above. |
| (B) | Principal balance of borrowings under the Credit Facility, based on the current contractual maturity due to the revolving nature of the facility. See Note 12–Subsequent Events for a discussion on the renewal of the Credit Facility. |
NOTE 11. FINANCIAL HIGHLIGHTS
| Three Months Ended December 31, |
||||||||
| 2011 | 2010 | |||||||
| Per Common Share Data(A) |
||||||||
| Net asset value at beginning of period |
$ | 10.16 | $ | 11.85 | ||||
| Income from investment operations (B) |
||||||||
| Net investment income |
0.21 | 0.22 | ||||||
| Net realized loss on investments |
(0.39 | ) | — | |||||
| Net unrealized appreciation (depreciation) on investments |
0.11 | (0.14 | ) | |||||
| Net unrealized depreciation on borrowings |
0.01 | 0.02 | ||||||
|
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|
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| Total from investment operations |
(0.06 | ) | 0.10 | |||||
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| Three Months Ended December 31, |
||||||||
| 2011 | 2010 | |||||||
| Distributions to common stockholders from (B)(C) |
||||||||
| Net investment income |
(0.21 | ) | (0.21 | ) | ||||
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|
|||||
| Total distributions to common stockholders |
(0.21 | ) | (0.21 | ) | ||||
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|
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| Capital Common Share transactions |
||||||||
| Repayment of principal on notes receivables |
0.01 | — | ||||||
| Stock redemption for repayment on notes receivables |
(0.01 | ) | — | |||||
|
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|
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| Total from capital common share transactions |
— | — | ||||||
| Other, net (D) |
0.01 | — | ||||||
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| Net asset value at end of period |
$ | 9.90 | $ | 11.74 | ||||
|
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| Per common share market value at beginning of period |
$ | 6.86 | $ | 11.27 | ||||
| Per common share market value at end of period |
7.63 | 11.52 | ||||||
| Total return(E)(F) |
14.25 | % | 4.11 | % | ||||
| Common shares outstanding at end of period |
21,019,242 | 21,039,242 | ||||||
| Statement of Assets and Liabilities Data: |
||||||||
| Net assets at end of period |
$ | 208,016 | $ | 246,960 | ||||
| Average net assets(G) |
210,972 | 247,513 | ||||||
| Senior Securities Data: |
||||||||
| Borrowings under Credit Facility, at fair value |
57,213 | 25,301 | ||||||
| Mandatorily redeemable preferred stock |
38,497 | — | ||||||
| Asset coverage ratio(H)(I) |
318 | % | 1,061 | % | ||||
| Asset coverage per unit(I) |
$ | 3,179 | $ | 10,612 | ||||
| Ratios/Supplemental Data: |
||||||||
| Ratio of expenses to average net assets-annualized(J) |
10.15 | % | 5.53 | % | ||||
| Ratio of net expenses to average net assets-annualized(K) |
9.30 | 5.44 | ||||||
| Ratio of net investment income to average net assets-annualized |
8.38 | 7.49 | ||||||
| (A) | Based on actual shares outstanding at the end of the corresponding period. |
| (B) | Based on weighted average basic per share data. |
| (C) | Distributions are determined based on taxable income calculated in accordance with income tax regulations which may differ from amounts determined under GAAP. |
| (D) | Represents the impact of the different share amounts (weighted average shares outstanding during the period and shares outstanding at the end of the period) in the per share data calculations and rounding impacts. |
| (E) | Total return equals the change in the ending market value of the Company’s common stock from the beginning of the period, taking into account distributions reinvested in accordance with the terms of the Company’s dividend reinvestment plan. Total return does not take into account distributions that may be characterized as a return of capital. For further information on the estimated character of the Company’s distributions to common stockholders, please refer to Note 9—Distributions to Common Stockholders. |
| (F) | Amounts were not annualized. |
| (G) | Average net assets are computed using the average of the balance of net assets at the end of each month of the reporting period. |
| (H) | As a BDC, the Company is generally required to maintain a ratio of at least 200% of total assets, less all liabilities and indebtedness not represented by senior securities, to total borrowings and guaranty commitments. The Company’s mandatorily redeemable preferred stock is characterized as borrowings for the asset coverage ratio. |
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| (I) | Asset coverage ratio is the ratio of the carrying value of the Company’s total consolidated assets, less all liabilities and indebtedness not represented by senior securities, to the aggregate amount of senior securities representing indebtedness (including interest payable and guarantees). Asset coverage per unit is the asset coverage ratio expressed in terms of dollar amounts per one thousand dollars of indebtedness. |
| (J) | Ratio of expenses to average net assets is computed using expenses before credits from the Adviser to the base management and incentive fees and including income tax expense. |
| (K) | Ratio of net expenses to average net assets is computed using total expenses net of credits from the Adviser to the base management and incentive fees and including income tax expense. |
NOTE 12. SUBSEQUENT EVENTS
Distributions
In January 2012, the Board of Directors declared the following monthly cash distributions to common and preferred stockholders:
| Record Date |
Payment Date |
Distribution per Common Share |
Distribution per Term Preferred Share |
|||||||
| January 23, 2012 | January 31, 2012 | $ | 0.07 | $ | 0.1484375 | |||||
| February 21, 2012 | February 29, 2012 | 0.07 | 0.1484375 | |||||||
| March 22, 2012 | March 30, 2012 | 0.07 | 0.1484375 | |||||||
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| Total for the Quarter | $ | 0.21 | $ | 0.4453125 | ||||||
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Investment Activity
Subsequent to December 31, 2011, the Company extended an aggregate amount of approximately $3.1 million to 8 existing portfolio companies in revolver draws and received scheduled repayments of $0.5 million from 9 portfolio companies. Additionally, GMT made an early payoff at par of $2.4 million in January 2012 as well as a success fee to the Company of $1.0 million.
Renewal of Credit Facility
On January 19, 2012, the Company entered into Amendment No. 3 to the fourth amended and restated credit agreement through Business Loan (the “Amended Credit Facility”), to extend the maturity date of its $137.0 million line of credit from March 15, 2012 to January 18, 2015 (the “Maturity Date”). The Amended Credit Facility was arranged by Keybank as administrative agent, with BB&T and ING also joining the Amended Credit Facility as committed lenders. Subject to certain terms and conditions, the Amended Credit Facility may be expanded to a maximum of $237.0 million through the addition of other committed lenders to the facility. If the Amended Credit Facility is not renewed or extended by the Maturity Date, all principal and interest will be due and payable on or before January 18, 2016 (one year after the Maturity Date). The Amended Credit Facility also limits payments on distributions to the aggregate net investment income for each of the twelve month periods ended September 30, 2011, 2012, 2013, 2014 and 2015. The interest rates on advances under the Amended Credit Facility remained unchanged at 30-day LIBOR subject to a minimum rate of 1.5%, plus 3.75% per annum, with a commitment fee of 0.5% per annum on undrawn amounts when the Amended Credit Facility is drawn more than 50.0% and 1.0% per annum on undrawn amounts when the Amended Credit Facility is drawn less than 50.0%. The Company incurred fees of $1.4 million in connection with this amendment. All other terms of the Amended Credit Facility remained substantially unchanged.
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The information in this prospectus supplement is not complete and may be changed. We may not sell these securities until the registration statement filed with the Securities and Exchange Commission is effective. This prospectus supplement is not an offer to sell these securities and is not soliciting an offer to buy these securities in any state where the offer or sale is not permitted.
Filed Pursuant to Rule 497
Registration Statement No. 333-162592
PROSPECTUS SUPPLEMENT
(To Prospectus dated , 201 )
Shares of Common Stock
We are offering for sale shares of our common stock. Our common stock is traded on The NASDAQ Global Select Market under the symbol “GLAD.” The last reported sale price for our common stock on , was $ per share. The net asset value per share of our common stock at the close of business on , 201 was $ per share.
| Per Share | Total (1) | |||||||
| Public offering price |
$ | $ | ||||||
| Underwriting discounts and commissions |
$ | $ | ||||||
| Proceeds, before expenses, to us |
$ | $ | ||||||
| (1) | The aggregate expenses of the offering are estimated to be $ , which represents approximately $ per share. |
The underwriters may also purchase up to an additional shares of common stock from us at the public offering price, less underwriting discounts and commissions, to cover over-allotments, if any, within 30 days after the date of this prospectus supplement. If the over-allotment option is exercised in full, our total proceeds, before expenses, would be $ and the total underwriting discounts and commissions would be $ . The common shares will be ready for delivery on or about , .
You should read this prospectus supplement and the accompanying prospectus before deciding whether to invest in our common stock and you should retain them for future reference. Additional information about us, including our annual, quarterly and current reports, has been filed with the Securities and Exchange Commission. This information is available free of charge on our corporate website at http://www.gladstoneinvestment.com.
An investment in our common stock involves certain risks, including, among other things, risks relating to investments in securities of small, private and developing businesses. We describe some of these risks in the section entitled “Risk Factors,” which begins on page S-6 of this prospectus supplement and page 7 of the accompanying prospectus. Shares of closed-end investment companies frequently trade at a discount to their net asset value and this may increase the risk of loss of purchasers of our common stock. You should carefully consider these risks together with all of the other information contained in this prospectus supplement and the accompanying prospectus before making a decision to purchase our common stock.
The common stock being offered has not been approved or disapproved by the Securities and Exchange Commission or any state securities commission nor has the Securities and Exchange Commission or any state securities commission passed upon the accuracy or adequacy of this prospectus supplement or the accompanying prospectus. Any representation to the contrary is a criminal offense.
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We have not authorized any dealer, salesman or other person to give any information or to make any representation other than those contained in this prospectus supplement or the accompanying prospectus. You must not rely upon any information or representation not contained in this prospectus supplement or the accompanying prospectus as if we had authorized it. This prospectus supplement and the accompanying prospectus do not constitute an offer to sell or a solicitation of any offer to buy any security other than the registered securities to which they relate, nor do they constitute an offer to sell or a solicitation of an offer to buy any securities in any jurisdiction to any person to whom it is unlawful to make such an offer or solicitation in such jurisdiction. The information contained in this prospectus supplement and any accompanying prospectus is accurate as of the dates on their respective covers only. Our business, financial condition, results of operations and prospects may have changed since such dates.
Prospectus Supplement
| Page | ||||
| S-1 | ||||
| S-4 | ||||
| S-4 | ||||
| S-4 | ||||
| S-4 | ||||
| S-4 | ||||
| S-4 | ||||
| Prospectus | ||||
| Page | ||||
| Prospectus Summary |
1 | |||
| Additional Information |
6 | |||
| Risk Factors |
7 | |||
| Special Note Regarding Forward-Looking Statements |
21 | |||
| Use of Proceeds |
22 | |||
| Price Range of Common Stock and Distributions |
22 | |||
| Consolidated Selected Financial and Other Data |
24 | |||
| Management’s Discussion and Analysis of Financial Condition and Results of Operations |
25 | |||
| Sales of Common Stock Below Net Asset Value |
58 | |||
| Senior Securities |
63 | |||
| Business |
64 | |||
| Portfolio Companies |
75 | |||
| Management |
81 | |||
| Control Persons and Principal Stockholders |
93 | |||
| Dividend Reinvestment Plan |
94 | |||
| Material U.S. Federal Income Tax Considerations |
95 | |||
| Regulation as a Business Development Company |
98 | |||
| Description of Our Securities |
100 | |||
| Certain Provisions of Delaware Law and of Our Certificate of Incorporation and Bylaws |
104 | |||
| Share Repurchases |
107 | |||
| Plan of Distribution |
107 | |||
| Custodian, Transfer and Dividend Paying Agent and Registrar |
108 | |||
| Brokerage Allocation and Other Practices |
109 | |||
| Legal Matters |
109 | |||
| Experts |
109 | |||
| Financial Statements |
F-1 | |||
Table of Contents
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
All statements contained in this prospectus supplement or the accompanying prospectus, other than historical facts, may constitute “forward-looking statements.” These statements may relate to, among other things, future events or our future performance or financial condition. In some cases, you can identify forward-looking statements by terminology such as “may,” “might,” “believe,” “will,” “provided,” “anticipate,” “future,” “could,” “growth,” “plan,” “intend,” “expect,” “should,” “would,” “if,” “seek,” “possible,” “potential,” “likely” or the negative of such terms or comparable terminology. These forward-looking statements involve known and unknown risks, uncertainties and other factors that may cause our actual results, levels of activity, performance or achievements to be materially different from any future results, levels of activity, performance or achievements expressed or implied by such forward-looking statements. Such factors include, among others: (1) further adverse changes in the economy and the capital markets; (2) risks associated with negotiation and consummation of pending and future transactions; (3) the loss of one or more of our executive officers, in particular David Gladstone, Terry Lee Brubaker or George Stelljes III ; (4) changes in our business strategy; (5) availability, terms and deployment of capital; (6) changes in our industry, interest rates, exchange rates or the general economy; (7) the degree and nature of our competition; and (8) those factors described in the “Risk Factors” sections of this prospectus supplement and the accompanying prospectus. We caution readers not to place undue reliance on any such forward-looking statements, which speak only as of the date made. We undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise, after the date of this prospectus supplement.
The following table is intended to assist you in understanding the costs and expenses that an investor in this offering will bear directly or indirectly. We caution you that some of the percentages indicated in the table below are estimates and may vary. Except where the context suggests otherwise, whenever this prospectus contains a reference to fees or expenses paid by “us” or “Gladstone Investment,” or that “we” will pay fees or expenses, stockholders will indirectly bear such fees or expenses as investors in Gladstone Investment. The following percentages were calculated based on actual expenses incurred in the year ended , and average net assets for the quarter ended , .
| Stockholder Transaction Expenses: |
||||
| Sales load (as a percentage of offering price) |
[ ] | % | ||
| Dividend reinvestment plan expenses(1) |
[ ] | |||
| Annual expenses (as a percentage of net assets attributable to common stock): |
||||
| Management fees(2) |
[ ] | % | ||
| Incentive fees payable under investment advisory and management agreement (20% of realized capital gains and 20% of pre-incentive fee net investment income)(3) |
[ ] | % | ||
| Interest payments on borrowed funds(4) |
[ ] | % | ||
| Other expenses(5) |
[ ] | % | ||
| Total annual expenses (2)(5) |
[ ] | % |
| (1) | The expenses of the reinvestment plan are included in stock record expenses, a component of “Other expenses.” We do not have a cash purchase plan. The participants in the dividend reinvestment plan will bear a pro rata share of brokerage commissions incurred with respect to open market purchases, if any. See “Dividend Reinvestment Plan” in the accompanying prospectus for information on the dividend reinvestment plan. |
| (2) | Our annual base management fee is 2% (0.5% quarterly) of our average gross assets, which are defined as total assets of Gladstone Investment, including investments made with proceeds of borrowings, less any uninvested cash or cash equivalents resulting from borrowings. For the fiscal year ended , , our Adviser voluntarily agreed to waive the annual base management fee of 2% to [ ]% for those senior |
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| syndicated loans that we purchase using borrowings from our credit facility. However, because we held no senior syndicated loans purchased using borrowings under our credit facility during the quarter ended , , the waiver did not impact our expenses for that period, as reflected in the table above. See “Management — Certain Transactions — Investment Advisory and Management Agreement” in the accompanying prospectus and footnote 3 below. |
| (3) | The incentive fee consists of two parts: an income-based fee and a capital gains-based fee. The income-based fee is payable quarterly in arrears, and equals 20% of the excess, if any, of our pre-incentive fee net investment income that exceeds a 1.75% quarterly ([ ]% annualized) hurdle rate of our net assets, subject to a “catch-up” provision measured as of the end of each calendar quarter. The “catch-up” provision requires us to pay 100% of our pre-incentive fee net investment income with respect to that portion of such income, if any, that exceeds the hurdle rate but is less than 125% of the quarterly hurdle rate (or 2.1875%) in any calendar quarter (8.75% annualized). The catch-up provision is meant to provide our Adviser with 20% of our pre-incentive fee net investment income as if a hurdle rate did not apply when our pre-incentive fee net investment income exceeds 125% of the quarterly hurdle rate in any calendar quarter (8.75% annualized). The income-based incentive fee is computed and paid on income that may include interest that is accrued but not yet received in cash. Our pre-incentive fee net investment income used to calculate this part of the income-based incentive fee is also included in the amount of our gross assets used to calculate the 2% base management fee (see footnote 2 above). The capital gains-based incentive fee equals 20% of our net realized capital gains since our inception, if any, computed net of all realized capital losses and unrealized capital depreciation since our inception, less any prior payments, and is payable at the end of each fiscal year. |
Examples of how the incentive fee would be calculated are as follows:
| • | Assuming pre-incentive fee net investment income of 0.55%, there would be no income-based incentive fee because such income would not exceed the hurdle rate of 1.75%. |
| • | Assuming pre-incentive fee net investment income of 2.00%, the income-based incentive fee would be as follows: |
= 100% × (2.00% — 1.75%)
= 0.25%
| • | Assuming pre-incentive fee net investment income of 2.30%, the income-based incentive fee would be as follows: |
= (100% × (“catch-up”: 2.1875% — 1.75%)) + (20%× (2.30% — 2.1875%))
= (100% × 0.4375%) + (20% × 0.1125%)
= 0.4375% + 0.0225%
= 0.46%
| • | Assuming net realized capital gains of 6% and realized capital losses and unrealized capital depreciation of 1%, the capital gains-based incentive fee would be as follows: |
= 20% × (6% — 1%)
= 20% × 5%
= 1%
For a more detailed discussion of the calculation of the two-part incentive fee, see “Management — Certain Transactions — Investment Advisory and Management Agreement” in the accompanying prospectus.
S-2
Table of Contents
| (4) | Includes deferred financing costs. We entered into a revolving credit facility, effective , , under which our borrowing capacity is $[ ] million. We have drawn down on this credit facility and we expect to borrow additional funds in the future up to an amount so that our asset coverage, as defined in the 1940 Act, is at least 200% after each issuance of our senior securities. Assuming that we borrowed $[ ] million at an interest rate of [ ]% plus an additional fee related to borrowings of [ ]%, for an aggregate rate of [ ]%, interest payments and amortization of deferred financing costs on borrowed funds would have been [ ]% of our average net assets for the quarter ended , . |
| (5) | Includes our overhead expenses, including payments under the administration agreement based on our projected allocable portion of overhead and other expenses incurred by our Administrator in performing its obligations under the administration agreement. See “Management — Certain Transactions — Administration Agreement” in the accompanying prospectus. |
Example
The following example demonstrates the projected dollar amount of total cumulative expenses that would be incurred over various periods with respect to a hypothetical investment in our common stock. In calculating the following expense amounts, we have assumed that our annual operating expenses would remain at the levels set forth in the table above.
| 1 Year | 3 Years | 5 Years | 10 Years | |||||||||||||
| You would pay the following expenses on a $1,000 investment, assuming a 5% annual return |
$ | [ | ] | $ | [ | ] | $ | [ | ] | $ | [ | ] | ||||
While the example assumes, as required by the SEC, a 5% annual return, our performance will vary and may result in a return greater or less than 5%. Additionally, we have assumed that the entire amount of such 5% annual return would constitute ordinary income as we have not historically realized positive capital gains (computed net of all realized capital losses) on our investments. Because the assumed 5% annual return is significantly below the hurdle rate of 7% (annualized) that we must achieve under the investment advisory and management agreement to trigger the payment of an income-based incentive fee, we have assumed, for purposes of the above example, that no income-based incentive fee would be payable if we realized a 5% annual return on our investments. Additionally, because the capital gains-based incentive fee is calculated on a cumulative basis (computed net of all realized capital losses and unrealized capital depreciation) and because of the significant capital losses realized to date, we have assumed that we will not trigger the payment of any capital gains-based incentive fee in any of the indicated time periods. If we achieve sufficient returns on our investments, including through the realization of capital gains, to trigger an incentive fee of a material amount, our expenses on a $1,000 investment, assuming a 5% annual return, consisting entirely of capital gains would be $[ ] for 1 year, $[ ] for 3 years, $[ ] for 5 years and $[ ] for 10 years. In addition, while the example assumes reinvestment of all dividends and distributions at net asset value, participants in our dividend reinvestment plan will receive a number of shares of our common stock, determined by dividing the total dollar amount of the dividend payable to a participant by the market price per share of our common stock at the close of trading on the valuation date for the dividend. See “Dividend Reinvestment Plan” in the accompanying prospectus for additional information regarding our dividend reinvestment plan.
This example and the expenses in the table above should not be considered a representation of our future expenses, and actual expenses (including the cost of debt, incentive fees, if any, and other expenses) may be greater or less than those shown.
S-3
Table of Contents
[To be provided.]
We intend to use the net proceeds from this offering first to pay down existing short-term debt, then to make investments in small and mid-sized businesses in accordance with our investment objectives, with any remaining proceeds to be used for other general corporate purposes. Indebtedness under our credit line facility currently accrues interest at the rate of approximately [ ]% and matures on , . We anticipate that substantially all of the net proceeds of this offering will be utilized in the manner described above within three months of the completion of the offering. Pending such utilization, we intend to invest the net proceeds of this offering primarily in cash, cash equivalents, U.S. government securities, and other high-quality debt investments that mature in one year or less from the date of investment, consistent with the requirements for continued qualification as a RIC for federal income tax purposes.
[To be provided.]
PRICE RANGE OF COMMON STOCK AND DI STRIBUTIONS
We currently intend to distribute in the form of cash dividends, a minimum of 90% of our ordinary income and short-term capital gains, if any, on a quarterly basis to our stockholders in the form of monthly dividends. We intend to retain long-term capital gains and treat them as deemed distributions for tax purposes. We report the estimated tax characteristics of each distribution when declared while the actual tax characteristics of distributions are reported annually to each stockholder on Form 1099 — DIV. There is no assurance that we will achieve investment results or maintain a tax status that will permit any specified level of cash distributions or year-to-year increases in cash distributions. At the option of a holder of record of common stock, all cash distributions can be reinvested automatically under our dividend reinvestment plan in additional whole and fractional shares. A stockholder whose shares are held in the name of a broker or other nominee should contact the broker or nominee regarding participation in our dividend reinvestment plan on the stockholder’s behalf. See “Risk Factors — We will be subject to corporate-level tax if we are unable to satisfy Code requirements for RIC qualification;” “Dividend Reinvestment Plan;” and “Material U.S. Federal Income Tax Considerations” in the accompanying prospectus.
Our common stock is quoted on The NASDAQ Global Select Market under the symbol “GLAD.” Our common stock has historically traded at prices both above and below its net asset value. There can be no assurance, however, that any premium to net asset value will be attained or maintained. As of , , we had [ ] stockholders of record.
[To be provided.]
The legality of securities offered hereby will be passed upon for us by Cooley LLP, Reston, Virginia. [Certain legal matters will be passed upon for the underwriters by .]
S-4
Table of Contents
Gladstone Capital Corporation
Shares of Common Stock
PROSPECTUS SUPPLEMENT
, 201
Table of Contents
The information in this prospectus supplement is not complete and may be changed. We may not sell these securities until the registration statement filed with the Securities and Exchange Commission is effective. This prospectus supplement is not an offer to sell these securities and is not soliciting an offer to buy these securities in any state where the offer or sale is not permitted.
Filed Pursuant to Rule 497
Registration Statement No. 333-162592
PROSPECTUS SUPPLEMENT
(To Prospectus dated , 201 )
Shares
% Series [ ] Preferred Stock
Liquidation Preference $ per share
We are offering for sale shares of our Series Preferred Stock. Our common stock is traded on The NASDAQ Global Select Market under the symbol “GLAD.” The last reported sale price for our common stock on , was $ per share. The net asset value per share of our common stock at the close of business on , 201 was $ per share. There currently is no market for the preferred stock. We applied to list the preferred stock on [ ]. The expected trading symbol for the preferred stock is [ ].
| Per Share | Total (1) | |||||||
| Public offering price |
$ | $ | ||||||
|
|
|
|
|
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| Underwriting discounts and commissions |
$ | $ | ||||||
|
|
|
|
|
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| Proceeds, before expenses, to us |
$ | $ | ||||||
|
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|
|
|
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| (1) | The aggregate expenses of the offering are estimated to be $ , which represents approximately $ per share. |
The Underwriters are expected to deliver the Series Preferred Stock in book-entry form through the Depositary Trust Company on or about .
You should read this prospectus supplement and the accompanying prospectus before deciding whether to invest in our preferred stock and you should retain them for future reference. Additional information about us, including our annual, quarterly and current reports, has been filed with the Securities and Exchange Commission. This information is available free of charge on our corporate website at http://www.gladstoneinvestment.com.
An investment in our preferred stock involves certain risks, including, among other things, risks relating to investments in securities of small, private and developing businesses. We describe some of these risks in the section entitled “Risk Factors,” which begins on page P-5 of this prospectus supplement and page 7 of the accompanying prospectus. Shares of closed-end investment companies frequently trade at a discount to their net asset value and this may increase the risk of loss of purchasers of our preferred stock. You should carefully consider these risks together with all of the other information contained in this prospectus supplement and the accompanying prospectus before making a decision to purchase our preferred stock.
The preferred stock being offered has not been approved or disapproved by the Securities and Exchange Commission or any state securities commission nor has the Securities and Exchange Commission or any state securities commission passed upon the accuracy or adequacy of this prospectus supplement or the accompanying prospectus. Any representation to the contrary is a criminal offense.
, 201
Table of Contents
We have not authorized any dealer, salesman or other person to give any information or to make any representation other than those contained in this prospectus supplement or the accompanying prospectus. You must not rely upon any information or representation not contained in this prospectus supplement or the accompanying prospectus as if we had authorized it. This prospectus supplement and the accompanying prospectus do not constitute an offer to sell or a solicitation of any offer to buy any security other than the registered securities to which they relate, nor do they constitute an offer to sell or a solicitation of an offer to buy any securities in any jurisdiction to any person to whom it is unlawful to make such an offer or solicitation in such jurisdiction. The information contained in this prospectus supplement and any accompanying prospectus is accurate as of the dates on their respective covers only. Our business, financial condition, results of operations and prospects may have changed since such dates.
Prospectus Supplement
| Page | ||||
| P-1 | ||||
| P-2 | ||||
| P-2 | ||||
| P-2 | ||||
| P-2 | ||||
| Special Characteristics and Risks of the Series [ ] Preferred Stock |
P-2 | |||
| P-2 | ||||
| P-2 | ||||
| P-2 | ||||
| P-2 | ||||
Prospectus
| Page | ||||
| Prospectus Summary |
1 | |||
| Additional Information |
6 | |||
| Risk Factors |
7 | |||
| Special Note Regarding Forward-Looking Statements |
21 | |||
| Use of Proceeds |
22 | |||
| Price Range of Common Stock and Distributions |
22 | |||
| Consolidated Selected Financial and Other Data |
24 | |||
| Management’s Discussion and Analysis of Financial Condition and Results of Operations |
25 | |||
| Sales of Common Stock Below Net Asset Value |
58 | |||
| Senior Securities |
63 | |||
| Business |
64 | |||
| Portfolio Companies |
75 | |||
| Management |
81 | |||
| Control Persons and Principal Stockholders |
93 | |||
| Dividend Reinvestment Plan |
94 | |||
| Material U.S. Federal Income Tax Considerations |
95 | |||
| Regulation as a Business Development Company |
98 | |||
| Description of Our Securities |
100 | |||
| Certain Provisions of Delaware Law and of Our Certificate of Incorporation and Bylaws |
104 | |||
| Share Repurchases |
107 | |||
| Plan of Distribution |
107 | |||
| Custodian, Transfer and Dividend Paying Agent and Registrar |
108 | |||
| Brokerage Allocation and Other Practices |
109 | |||
| Legal Matters |
109 | |||
| Experts |
109 | |||
| Financial Statements |
F-1 | |||
Table of Contents
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
All statements contained in this prospectus supplement or the accompanying prospectus, other than historical facts, may constitute “forward-looking statements.” These statements may relate to, among other things, future events or our future performance or financial condition. In some cases, you can identify forward-looking statements by terminology such as “may,” “might,” “believe,” “will,” “provided,” “anticipate,” “future,” “could,” “growth,” “plan,” “intend,” “expect,” “should,” “would,” “if,” “seek,” “possible,” “potential,” “likely” or the negative of such terms or comparable terminology. These forward-looking statements involve known and unknown risks, uncertainties and other factors that may cause our actual results, levels of activity, performance or achievements to be materially different from any future results, levels of activity, performance or achievements expressed or implied by such forward-looking statements. Such factors include, among others: (1) further adverse changes in the economy and the capital markets; (2) risks associated with negotiation and consummation of pending and future transactions; (3) the loss of one or more of our executive officers, in particular David Gladstone, Terry Lee Brubaker or George Stelljes III ; (4) changes in our business strategy; (5) availability, terms and deployment of capital; (6) changes in our industry, interest rates, exchange rates or the general economy; (7) the degree and nature of our competition; and (8) those factors described in the “Risk Factors” sections of this prospectus supplement and the accompanying prospectus. We caution readers not to place undue reliance on any such forward-looking statements, which speak only as of the date made. We undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise, after the date of this prospectus supplement.
TERMS OF THE SERIES [ ] PREFERRED STOCK
| Dividend Rate |
The dividend rate will be %. | |
| Dividend Payment Rate |
[Dividends will be paid when, as and if declared on , , , and , commencing .] The payment date for the initial dividend period will be .] | |
| Regular Dividend Period |
Regular dividend periods will be days. | |
| Liquidation Preference |
$ per share | |
| Non-Call Period |
The shares may not be called for redemption at the option of the Company prior to . | |
| Stock Exchange Listing |
||
P-1
Table of Contents
[To be provided.]
We intend to use the net proceeds from this offering first to pay down existing short-term debt, then to make investments in small and mid-sized businesses in accordance with our investment objectives, with any remaining proceeds to be used for other general corporate purposes. Indebtedness under our credit line facility currently accrues interest at the rate of approximately [ ]% and matures on , . We anticipate that substantially all of the net proceeds of this offering will be utilized in the manner described above within three months of the completion of the offering. Pending such utilization, we intend to invest the net proceeds of this offering primarily in cash, cash equivalents, U.S. government securities, and other high-quality debt investments that mature in one year or less from the date of investment, consistent with the requirements for continued qualification as a RIC for federal income tax purposes.
[To be provided.]
[To be provided.]
SPECIAL CHARACTERISTICS AND RISKS OF THE SERIES [ ] PREFERRED STOCK
[To be provided.]
DESCRIPTION OF THE SERIES [ ] PREF ERRED STOCK
[To be provided.]
[To be provided.]
[To be provided.]
The legality of securities offered hereby will be passed upon for us by Cooley LLP, Reston, Virginia. [Certain legal matters will be passed upon for the underwriters by .]
P-2
Table of Contents
Gladstone Capital Corporation
Shares
% Series [ ] Preferred Stock
(Liquidation Preference $ per share)
PROSPECTUS SUPPLEMENT
, 201
Table of Contents
The information in this prospectus supplement is not complete and may be changed. We may not sell these securities until the registration statement filed with the Securities and Exchange Commission is effective. This prospectus supplement is not an offer to sell these securities and is not soliciting an offer to buy these securities in any state where the offer or sale is not permitted.
Filed Pursuant to Rule 497
Registration Statement No. 333-162592
PROSPECTUS SUPPLEMENT
(To Prospectus dated , 201 )
Rights for Shares
Subscription Rights for Common Stock
Gladstone Capital Corporation, referred to as we, us, our or the Company, is issuing subscription rights, or Rights, to our common stockholders to purchase additional shares of common stock.
We were primarily established for the purpose of investing in subordinated loans, mezzanine debt, preferred stock and warrants to purchase common stock of small and medium-sized companies in connection with buyouts and other recapitalizations. When we invest in buyouts we do so with the management team of the portfolio companies and with other buyout funds. We also sometimes invest in senior secured loans, common stock and, to a much lesser extent, senior and subordinated syndicated loans. Our investment objective is to generate both current income and capital gains through these debt and equity instruments. We operate as a closed-end, non-diversified management investment company and have elected to be treated as a business development company, or BDC, under the Investment Company Act of 1940, as amended, which we refer to as the 1940 Act. Our investment adviser is Gladstone Management Corporation, referred to as Adviser.
Our common stock is traded on The NASDAQ Global Select Market under the symbol “GLAD.” The last reported sale price for our common stock on , was $ per share. The net asset value per share of our common stock at the close of business on , 201 was $ per share.
You should read this prospectus supplement and the accompanying prospectus before deciding whether to invest in our Rights and you should retain them for future reference. Additional information about us, including our annual, quarterly and current reports, has been filed with the Securities and Exchange Commission. This information is available free of charge on our corporate website at http://www.gladstoneinvestment.com.
Investing in common stock through Rights involves certain risks that are described in the “Risk Factors” section beginning on page R-7 of this prospectus supplement and page 7 of the accompanying prospectus.
Stockholders who do not exercise their rights may, at the completion of the offering, own a smaller proportional interest in the Company than if they exercised their rights. As a result of the offering you may experience dilution or accretion of the aggregate net asset value of your shares of common stock depending upon whether the Company’s net asset value per share of common stock is above or below the subscription price on the expiration date.
The Rights being offered have not been approved or disapproved by the Securities and Exchange Commission or any state securities commission nor has the Securities and Exchange Commission or any state securities commission passed upon the accuracy or adequacy of this prospectus supplement or the accompanying prospectus. Any representation to the contrary is a criminal offense.
| Per Share | Total | |||||||
| Subscription price of Common Stock to shareholders exercising Rights |
$ | $ | ||||||
| Underwriting discounts and commissions |
$ | $ | ||||||
| Proceeds, before expenses, to us (1) |
$ | $ | ||||||
| (1) | The aggregate expenses of the offering are estimated to be $ . |
The common stock is expected to be ready for delivery in book-entry form through the Depository Trust Company on or about , 201 . If the offer is extended, the common stock is expected to be ready for delivery in book-entry form through the Depository Trust Company on or about , 201 .
, 201
Table of Contents
We have not authorized any dealer, salesman or other person to give any information or to make any representation other than those contained in this prospectus supplement or the accompanying prospectus. You must not rely upon any information or representation not contained in this prospectus supplement or the accompanying prospectus as if we had authorized it. This prospectus supplement and the accompanying prospectus do not constitute an offer to sell or a solicitation of any offer to buy any security other than the registered securities to which they relate, nor do they constitute an offer to sell or a solicitation of an offer to buy any securities in any jurisdiction to any person to whom it is unlawful to make such an offer or solicitation in such jurisdiction. The information contained in this prospectus supplement and any accompanying prospectus is accurate as of the dates on their respective covers only. Our business, financial condition, results of operations and prospects may have changed since such dates.
Prospectus Supplement
| Page | ||||
| R-1 | ||||
| R-3 | ||||
| R-3 | ||||
| R-5 | ||||
| R-5 | ||||
| R-6 | ||||
| R-6 | ||||
| R-6 | ||||
| R-6 | ||||
Prospectus
| Page | ||||
| Prospectus Summary |
1 | |||
| Additional Information |
6 | |||
| Risk Factors |
7 | |||
| Special Note Regarding Forward-Looking Statements |
21 | |||
| Use of Proceeds |
22 | |||
| Price Range of Common Stock and Distributions |
22 | |||
| Consolidated Selected Financial and Other Data |
24 | |||
| Management’s Discussion and Analysis of Financial Condition and Results of Operations |
25 | |||
| Sales of Common Stock Below Net Asset Value |
58 | |||
| Senior Securities |
63 | |||
| Business |
64 | |||
| Portfolio Companies |
75 | |||
| Management |
81 | |||
| Control Persons and Principal Stockholders |
93 | |||
| Dividend Reinvestment Plan |
94 | |||
| Material U.S. Federal Income Tax Considerations |
95 | |||
| Regulation as a Business Development Company |
98 | |||
| Description of Our Securities |
100 | |||
| Certain Provisions of Delaware Law and of Our Certificate of Incorporation and Bylaws |
104 | |||
| Share Repurchases |
107 | |||
| Plan of Distribution |
107 | |||
| Custodian, Transfer and Dividend Paying Agent and Registrar |
108 | |||
| Brokerage Allocation and Other Practices |
109 | |||
| Legal Matters |
109 | |||
| Experts |
109 | |||
| Financial Statements |
F-1 | |||
i
Table of Contents
Prospectus
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
All statements contained in this prospectus supplement or the accompanying prospectus, other than historical facts, may constitute “forward-looking statements.” These statements may relate to, among other things, future events or our future performance or financial condition. In some cases, you can identify forward-looking statements by terminology such as “may,” “might,” “believe,” “will,” “provided,” “anticipate,” “future,” “could,” “growth,” “plan,” “intend,” “expect,” “should,” “would,” “if,” “seek,” “possible,” “potential,” “likely” or the negative of such terms or comparable terminology. These forward-looking statements involve known and unknown risks, uncertainties and other factors that may cause our actual results, levels of activity, performance or achievements to be materially different from any future results, levels of activity, performance or achievements expressed or implied by such forward-looking statements. Such factors include, among others: (1) further adverse changes in the economy and the capital markets; (2) risks associated with negotiation and consummation of pending and future transactions; (3) the loss of one or more of our executive officers, in particular David Gladstone, Terry Lee Brubaker or George Stelljes III ; (4) changes in our business strategy; (5) availability, terms and deployment of capital; (6) changes in our industry, interest rates, exchange rates or the general economy; (7) the degree and nature of our competition; and (8) those factors described in the “Risk Factors” sections of this prospectus supplement and the accompanying prospectus. We caution readers not to place undue reliance on any such forward-looking statements, which speak only as of the date made. We undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise, after the date of this prospectus supplement.
SUMMARY OF THE TERMS OF THE RIGHTS OFFERING
| Terms of the Offer |
[To be provided.] | |
| Amount Available for |
$[ ] | |
| Title |
Subscription Rights for common stock | |
| Subscription Price |
Rights may be exercised at a price of $ per share of common stock (the “Subscription Price”). See “Description of the Rights Offering.” | |
| Record Date |
Rights will be issued to holders of record of the Company’s common stock on , 201 (the “Record Date”). See “Description of the Rights Offering.” | |
| Number of Rights Issued |
Rights will be issued in respect of each share of common stock of the Company outstanding on the Record Date. See “Description of the Rights Offering.” | |
| Number of Rights Required to Purchase One Common Share |
A holder of Rights may purchase share of common stock of the Company for every Rights exercised. The number of Rights to be issued to a stockholder on the Record Date will be rounded up to the nearest number of Rights evenly divisible by . See “Description of the Rights Offering.” | |
| Over-Subscription Privilege |
[To be provided.] | |
| Transfer of Rights |
[To be provided.] | |
| Subscription Period |
The Rights may be exercised at any time after issuance and prior to expiration of the Rights, which will be 5:00 PM Eastern Time on , 201 (the “Expiration Date”) (the “Subscription Period”). See “Description of the Rights Offering.” | |
| Offer Expenses |
The expenses of the Offer are expected to be approximately $[ ]. See “Use of Proceeds.” | |
R-1
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| Sale of Rights |
[To be provided.] | |
| Use of Proceeds |
The Company estimates the net proceeds of the Offer to be approximately $[ ]. This figure is based on the Subscription Price per share of $ and assumes all new shares of common stock offered are sold and that the expenses related to the Offer estimated at approximately $[ ] are paid. | |
| The Company intends to use the net proceeds from this offering first to pay down existing short-term debt, then to make investments in small and mid-sized businesses in accordance with our investment objectives, with any remaining proceeds to be used for other general corporate purposes. We anticipate that substantially all of the net proceeds of this offering will be utilized in the manner described above within three months of the completion of the offering. Pending such utilization, we intend to invest the net proceeds of this offering primarily in cash, cash equivalents, U.S. government securities, and other high-quality debt investments that mature in one year or less from the date of investment, consistent with the requirements for continued qualification as a RIC for federal income tax purposes. See “Use of Proceeds.” | ||
| Rights Agent |
[To be provided.] | |
R-2
Table of Contents
DESCRIPTION OF THE RIGHTS OFFERING
[To be provided.]
The following table is intended to assist you in understanding the costs and expenses that an investor in this offering will bear directly or indirectly. We caution you that some of the percentages indicated in the table below are estimates and may vary. Except where the context suggests otherwise, whenever this prospectus contains a reference to fees or expenses paid by “us” or “Gladstone Investment,” or that “we” will pay fees or expenses, stockholders will indirectly bear such fees or expenses as investors in Gladstone Investment. The following percentages were calculated based on actual expenses incurred in the year ended , and average net assets for the quarter ended , .
| Stockholder Transaction Expenses: |
||||
| Sales load (as a percentage of offering price) |
[ | ] % | ||
| Dividend reinvestment plan expenses(1) |
[ | ] | ||
| Annual expenses (as a percentage of net assets attributable to common stock): |
||||
| Management fees(2) |
[ | ] % | ||
| Incentive fees payable under investment advisory and management agreement (20% of realized capital gains and 20% of pre-incentive fee net investment income)(3) |
[ | ] % | ||
| Interest payments on borrowed funds(4) |
[ | ] % | ||
| Other expenses(5) |
[ | ] % | ||
| Total annual expenses (2)(5) |
[ | ] % |
| (1) | The expenses of the reinvestment plan are included in stock record expenses, a component of “Other expenses.” We do not have a cash purchase plan. The participants in the dividend reinvestment plan will bear a pro rata share of brokerage commissions incurred with respect to open market purchases, if any. See “Dividend Reinvestment Plan” in the accompanying prospectus for information on the dividend reinvestment plan. |
| (2) | Our annual base management fee is 2% (0.5% quarterly) of our average gross assets, which are defined as total assets of Gladstone Investment, including investments made with proceeds of borrowings, less any uninvested cash or cash equivalents resulting from borrowings. For the fiscal year ended , , our Adviser voluntarily agreed to waive the annual base management fee of 2% to [ ]% for those senior syndicated loans that we purchase using borrowings from our credit facility. However, because we held no senior syndicated loans purchased using borrowings under our credit facility during the quarter ended , , the waiver did not impact our expenses for that period, as reflected in the table above. See “Management — Certain Transactions — Investment Advisory and Management Agreement” in the accompanying prospectus and footnote 3 below. |
| (3) | The incentive fee consists of two parts: an income-based fee and a capital gains-based fee. The income-based fee is payable quarterly in arrears, and equals 20% of the excess, if any, of our pre-incentive fee net investment income that exceeds a 1.75% quarterly ([ ]% annualized) hurdle rate of our net assets, subject to a “catch-up” provision measured as of the end of each calendar quarter. The “catch-up” provision requires us to pay 100% of our pre-incentive fee net investment income with respect to that portion of such income, if any, that exceeds the hurdle rate but is less than 125% of the quarterly hurdle rate (or 2.1875%) in any calendar quarter (8.75% annualized). The catch-up provision is meant to provide our Adviser with 20% of our pre-incentive fee net investment income as if a hurdle rate did not apply when our pre-incentive fee net investment income exceeds 125% of the quarterly hurdle rate in any calendar quarter (8.75% annualized). The income-based incentive fee is computed and paid on income that may include interest that is accrued but not yet received in cash. Our pre-incentive fee net investment income used to calculate this part of the income-based incentive fee is also included in the amount of our gross assets used to calculate the 2% base |
R-3
Table of Contents
| management fee (see footnote 2 above). The capital gains-based incentive fee equals 20% of our net realized capital gains since our inception, if any, computed net of all realized capital losses and unrealized capital depreciation since our inception, less any prior payments, and is payable at the end of each fiscal year. |
Examples of how the incentive fee would be calculated are as follows:
| • | Assuming pre-incentive fee net investment income of 0.55%, there would be no income-based incentive fee because such income would not exceed the hurdle rate of 1.75%. |
| • | Assuming pre-incentive fee net investment income of 2.00%, the income-based incentive fee would be as follows: |
= 100% × (2.00% — 1.75%)
= 0.25%
| • | Assuming pre-incentive fee net investment income of 2.30%, the income-based incentive fee would be as follows: |
= (100% × (“catch-up”: 2.1875% — 1.75%)) + (20%× (2.30% — 2.1875%))
= (100% × 0.4375%) + (20% × 0.1125%)
= 0.4375% + 0.0225%
= 0.46%
| • | Assuming net realized capital gains of 6% and realized capital losses and unrealized capital depreciation of 1%, the capital gains-based incentive fee would be as follows: |
= 20% × (6% — 1%)
= 20% × 5%
= 1%
For a more detailed discussion of the calculation of the two-part incentive fee, see “Management — Certain Transactions — Investment Advisory and Management Agreement” in the accompanying prospectus.
| (4) | Includes deferred financing costs. We entered into a revolving credit facility, effective , , under which our borrowing capacity is $[ ] million. We have drawn down on this credit facility and we expect to borrow additional funds in the future up to an amount so that our asset coverage, as defined in the 1940 Act, is at least 200% after each issuance of our senior securities. Assuming that we borrowed $[ ] million at an interest rate of [ ]% plus an additional fee related to borrowings of [ ]%, for an aggregate rate of [ ]%, interest payments and amortization of deferred financing costs on borrowed funds would have been [ ]% of our average net assets for the quarter ended , . |
| (5) | Includes our overhead expenses, including payments under the administration agreement based on our projected allocable portion of overhead and other expenses incurred by our Administrator in performing its obligations under the administration agreement. See “Management — Certain Transactions — Administration Agreement” in the accompanying prospectus. |
R-4
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Example
The following example demonstrates the projected dollar amount of total cumulative expenses that would be incurred over various periods with respect to a hypothetical investment in our common stock. In calculating the following expense amounts, we have assumed that our annual operating expenses would remain at the levels set forth in the table above.
| 1 Year | 3 Years | 5 Years | 10 Years | |||||||||||||
| You would pay the following expenses on a $1,000 investment, assuming a 5% annual return |
$ | [ ] | $ | [ ] | $ | [ ] | $ | [ ] | ||||||||
While the example assumes, as required by the SEC, a 5% annual return, our performance will vary and may result in a return greater or less than 5%. Additionally, we have assumed that the entire amount of such 5% annual return would constitute ordinary income as we have not historically realized positive capital gains (computed net of all realized capital losses) on our investments. Because the assumed 5% annual return is significantly below the hurdle rate of 7% (annualized) that we must achieve under the investment advisory and management agreement to trigger the payment of an income-based incentive fee, we have assumed, for purposes of the above example, that no income-based incentive fee would be payable if we realized a 5% annual return on our investments. Additionally, because the capital gains-based incentive fee is calculated on a cumulative basis (computed net of all realized capital losses and unrealized capital depreciation) and because of the significant capital losses realized to date, we have assumed that we will not trigger the payment of any capital gains-based incentive fee in any of the indicated time periods. If we achieve sufficient returns on our investments, including through the realization of capital gains, to trigger an incentive fee of a material amount, our expenses on a $1,000 investment, assuming a 5% annual return, consisting entirely of capital gains would be $[ ] for 1 year, $[ ] for 3 years, $[ ] for 5 years and $[ ] for 10 years. In addition, while the example assumes reinvestment of all dividends and distributions at net asset value, participants in our dividend reinvestment plan will receive a number of shares of our common stock, determined by dividing the total dollar amount of the dividend payable to a participant by the market price per share of our common stock at the close of trading on the valuation date for the dividend. See “Dividend Reinvestment Plan” in the accompanying prospectus for additional information regarding our dividend reinvestment plan.
This example and the expenses in the table above should not be considered a representation of our future expenses, and actual expenses (including the cost of debt, incentive fees, if any, and other expenses) may be greater or less than those shown.
[To be provided.]
We intend to use the net proceeds from this offering first to pay down existing short-term debt, then to make investments in small and mid-sized businesses in accordance with our investment objectives, with any remaining proceeds to be used for other general corporate purposes. Indebtedness under our credit line facility currently accrues interest at the rate of approximately [ ]% and matures on , . We anticipate that substantially all of the net proceeds of this offering will be utilized in the manner described above within three months of the completion of the offering. Pending such utilization, we intend to invest the net proceeds of this offering primarily in cash, cash equivalents, U.S. government securities, and other high-quality debt investments that mature in one year or less from the date of investment, consistent with the requirements for continued qualification as a RIC for federal income tax purposes.
R-5
Table of Contents
[To be provided.]
PRICE RANGE OF COMMON STOCK AND DISTRIBUTIONS
We currently intend to distribute in the form of cash dividends, a minimum of 90% of our ordinary income and short-term capital gains, if any, on a quarterly basis to our stockholders in the form of monthly dividends. We intend to retain long-term capital gains and treat them as deemed distributions for tax purposes. We report the estimated tax characteristics of each distribution when declared while the actual tax characteristics of distributions are reported annually to each stockholder on Form 1099 — DIV. There is no assurance that we will achieve investment results or maintain a tax status that will permit any specified level of cash distributions or year-to-year increases in cash distributions. At the option of a holder of record of common stock, all cash distributions can be reinvested automatically under our dividend reinvestment plan in additional whole and fractional shares. A stockholder whose shares are held in the name of a broker or other nominee should contact the broker or nominee regarding participation in our dividend reinvestment plan on the stockholder’s behalf. See “Risk Factors — We will be subject to corporate-level tax if we are unable to satisfy Code requirements for RIC qualification;” “Dividend Reinvestment Plan;” and “Material U.S. Federal Income Tax Considerations” in the accompanying prospectus.
Our common stock is quoted on The NASDAQ Global Select Market under the symbol “GLAD.” Our common stock has historically traded at prices both above and below its net asset value. There can be no assurance, however, that any premium to net asset value will be attained or maintained. As of , , we had [ ] stockholders of record.
[To be provided.]
The legality of securities offered hereby will be passed upon for us by Cooley LLP, Reston, Virginia. [Certain legal matters will be passed upon for the underwriters by .]
R-6
Table of Contents
Gladstone Capital Corporation
Shares of Common Stock
Issuable Upon Exercise of Rights to
Subscribe for Such Shares of Common Stock
PROSPECTUS SUPPLEMENT
, 201
Table of Contents
The information in this prospectus supplement is not complete and may be changed. We may not sell these securities until the registration statement filed with the Securities and Exchange Commission is effective. This prospectus supplement is not an offer to sell these securities and is not soliciting an offer to buy these securities in any state where the offer or sale is not permitted.
Filed Pursuant to Rule 497
Registration Statement No. 333-162592
PROSPECTUS SUPPLEMENT
(To Prospectus dated , 201 )
Rights for Shares
Subscription Rights for % Series [ ] Preferred Stock
Gladstone Capital Corporation, referred to as we, us, our or the Company, is issuing subscription rights, or Rights, to our common stockholders to purchase shares of % Series [ ] Preferred Stock, referred to as the Series [ ] Preferred Stock.
We were primarily established for the purpose of investing in subordinated loans, mezzanine debt, preferred stock and warrants to purchase common stock of small and medium-sized companies in connection with buyouts and other recapitalizations. When we invest in buyouts we do so with the management team of the portfolio companies and with other buyout funds. We also sometimes invest in senior secured loans, common stock and, to a much lesser extent, senior and subordinated syndicated loans. Our investment objective is to generate both current income and capital gains through these debt and equity instruments. We operate as a closed-end, non-diversified management investment company and have elected to be treated as a business development company, or BDC, under the Investment Company Act of 1940, as amended, which we refer to as the 1940 Act. Our investment adviser is Gladstone Management Corporation, referred to as Adviser.
Our common stock is traded on The NASDAQ Global Select Market under the symbol “GLAD.” The last reported sale price for our common stock on , was $ per share. The net asset value of our common shares at the close of business on , 201 was $ per share. There currently is no market for the preferred stock. We applied to list the preferred stock on [ ]. The expected trading symbol for the preferred stock is [ ].
You should read this prospectus supplement and the accompanying prospectus before deciding whether to invest in our Rights and you should retain them for future reference. Additional information about us, including our annual, quarterly and current reports, has been filed with the Securities and Exchange Commission. This information is available free of charge on our corporate website at http://www.gladstoneinvestment.com.
Investing in preferred stock through Rights involves certain risks that are described in the “Risk Factors” section beginning on page PR-6 of this prospectus supplement and page 7 of the accompanying prospectus.
The Rights being offered have not been approved or disapproved by the Securities and Exchange Commission or any state securities commission nor has the Securities and Exchange Commission or any state securities commission passed upon the accuracy or adequacy of this prospectus. Any representation to the contrary is a criminal offense.
| Per Share | Total | |||||||
| Subscription price of Preferred Stock to shareholders exercising Rights |
$ | $ | ||||||
| Underwriting discounts and commissions |
$ | $ | ||||||
| Proceeds, before expenses, to us (1) |
$ | $ | ||||||
| (1) | The aggregate expenses of the offering are estimated to be $[ ]. |
The preferred stock is expected to be ready for delivery in book-entry form through the Depository Trust Company on or about , 201 . If the offer is extended, the preferred stock is expected to be ready for delivery in book-entry form through the Depository Trust Company on or about , 201 .
, 201
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We have not authorized any dealer, salesman or other person to give any information or to make any representation other than those contained in this prospectus supplement or the accompanying prospectus. You must not rely upon any information or representation not contained in this prospectus supplement or the accompanying prospectus as if we had authorized it. This prospectus supplement and the accompanying prospectus do not constitute an offer to sell or a solicitation of any offer to buy any security other than the registered securities to which they relate, nor do they constitute an offer to sell or a solicitation of an offer to buy any securities in any jurisdiction to any person to whom it is unlawful to make such an offer or solicitation in such jurisdiction. The information contained in this prospectus supplement and any accompanying prospectus is accurate as of the dates on their respective covers only. Our business, financial condition, results of operations and prospects may have changed since such dates.
Prospectus Supplement
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| Prospectus | ||||
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| Prospectus Summary |
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| Additional Information |
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| Risk Factors |
7 | |||
| Special Note Regarding Forward-Looking Statements |
21 | |||
| Use of Proceeds |
22 | |||
| Price Range of Common Stock and Distributions |
22 | |||
| Consolidated Selected Financial and Other Data |
24 | |||
| Management’s Discussion and Analysis of Financial Condition and Results of Operations |
25 | |||
| Sales of Common Stock Below Net Asset Value |
58 | |||
| Senior Securities |
63 | |||
| Business |
64 | |||
| Portfolio Companies |
75 | |||
| Management |
81 | |||
| Control Persons and Principal Stockholders |
93 | |||
| Dividend Reinvestment Plan |
94 | |||
| Material U.S. Federal Income Tax Considerations |
95 | |||
| Regulation as a Business Development Company |
98 | |||
| Description of Our Securities |
100 | |||
| Certain Provisions of Delaware Law and of Our Certificate of Incorporation and Bylaws |
104 | |||
| Share Repurchases |
107 | |||
| Plan of Distribution |
107 | |||
| Custodian, Transfer and Dividend Paying Agent and Registrar |
108 | |||
| Brokerage Allocation and Other Practices |
109 | |||
| Legal Matters |
109 | |||
| Experts |
109 | |||
| Financial Statements |
F-1 | |||
i
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Prospectus
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
All statements contained in this prospectus supplement or the accompanying prospectus, other than historical facts, may constitute “forward-looking statements.” These statements may relate to, among other things, future events or our future performance or financial condition. In some cases, you can identify forward-looking statements by terminology such as “may,” “might,” “believe,” “will,” “provided,” “anticipate,” “future,” “could,” “growth,” “plan,” “intend,” “expect,” “should,” “would,” “if,” “seek,” “possible,” “potential,” “likely” or the negative of such terms or comparable terminology. These forward-looking statements involve known and unknown risks, uncertainties and other factors that may cause our actual results, levels of activity, performance or achievements to be materially different from any future results, levels of activity, performance or achievements expressed or implied by such forward-looking statements. Such factors include, among others: (1) further adverse changes in the economy and the capital markets; (2) risks associated with negotiation and consummation of pending and future transactions; (3) the loss of one or more of our executive officers, in particular David Gladstone, Terry Lee Brubaker or George Stelljes III ; (4) changes in our business strategy; (5) availability, terms and deployment of capital; (6) changes in our industry, interest rates, exchange rates or the general economy; (7) the degree and nature of our competition; and (8) those factors described in the “Risk Factors” sections of this prospectus supplement and the accompanying prospectus. We caution readers not to place undue reliance on any such forward-looking statements, which speak only as of the date made. We undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise, after the date of this prospectus supplement.
SUMMARY OF THE TERMS OF THE RIGHTS OFFERING
| Terms of the Offer | [To be provided.] | |
| Amount Available for Primary Subscription | $[ ] | |
| Title | Subscription Rights for Series [ ] preferred stock | |
| Exercise Price | Rights may be exercised at a price of $ per share of common stock (the “Subscription Price”). See “Description of the Rights Offering.” | |
| Record Date | Rights will be issued to holders of record of the Company’s common stock on , 201 (the “Record Date”). See “Description of the Rights Offering.” | |
| Number of Rights Issued | Rights will be issued in respect of each share of preferred stock of the Company outstanding on the Record Date. See “Description of the Rights Offering.” | |
| Number of Rights Required to Purchase One Preferred Share | A holder of Rights may purchase share of common stock of the Company for every Rights exercised. The number of Rights to be issued to a stockholder on the Record Date will be rounded up to the nearest number of Rights evenly divisible by . See “Description of the Rights Offering.” | |
| Over-Subscription Privilege | [To be provided.] | |
| Transfer of Rights | [To be provided.] | |
| Exercise Period | The Rights may be exercised at any time after issuance and prior to expiration of the Rights, which will be 5:00 PM Eastern Time on , 201 (the “Expiration Date”) (the “Subscription Period”). See “Description of the Rights Offering.” | |
PR-1
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| Offer Expenses | The expenses of the Offer are expected to be approximately $[ ]. See “Use of Proceeds.” | |
| Sale of Rights | [To be provided.] | |
| Use of Proceeds | The Company estimates the net proceeds of the Offer to be approximately $[ ]. This figure is based on the Exercise Price per share of $ and assumes all new shares of Series [ ] preferred stock offered are sold and that the expenses related to the Offer estimated at approximately $[ ] are paid. | |
| The Company intends to use the net proceeds from this offering first to pay down existing short-term debt, then to make investments in small and mid-sized businesses in accordance with our investment objectives, with any remaining proceeds to be used for other general corporate purposes. We anticipate that substantially all of the net proceeds of this offering will be utilized in the manner described above within three months of the completion of the offering. Pending such utilization, we intend to invest the net proceeds of this offering primarily in cash, cash equivalents, U.S. government securities, and other high-quality debt investments that mature in one year or less from the date of investment, consistent with the requirements for continued qualification as a RIC for federal income tax purposes. See “Use of Proceeds.” | ||
| Rights Agent | [To be provided.] | |
PR-2
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TERMS OF THE SERIES [ ] PREFERRED STOCK
| Dividend Rate | The dividend rate will be %. | |
| Dividend Payment Rate | [Dividends will be paid when, as and if declared on , , , and , commencing .] The payment date for the initial dividend period will be .] | |
| Regular Dividend Period | Regular dividend periods will be days. | |
| Liquidation Preference | $ per share | |
| Non-Call Period | The shares may not be called for redemption at the option of the Company prior to . | |
| Stock Exchange Listing | ||
DESCRIPTION OF THE RIGHTS OFFERING
[To be provided.]
[To be provided.]
We intend to use the net proceeds from this offering first to pay down existing short-term debt, then to make investments in small and mid-sized businesses in accordance with our investment objectives, with any remaining proceeds to be used for other general corporate purposes. Indebtedness under our credit line facility currently accrues interest at the rate of approximately [ ]% and matures on , . We anticipate that substantially all of the net proceeds of this offering will be utilized in the manner described above within three months of the completion of the offering. Pending such utilization, we intend to invest the net proceeds of this offering primarily in cash, cash equivalents, U.S. government securities, and other high-quality debt investments that mature in one year or less from the date of investment, consistent with the requirements for continued qualification as a RIC for federal income tax purposes.
[To be provided.]
[To be provided.]
[To be provided.]
[To be provided.]
The legality of securities offered hereby will be passed upon for us by Cooley LLP, Reston, Virginia. [Certain legal matters will be passed upon for the underwriters by .]
PR-3
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Gladstone Capital Corporation
Shares of % Series [ ] Preferred Stock
Issuable Upon Exercise of Rights to
Subscribe for Such Shares of Preferred Stock
PROSPECTUS SUPPLEMENT
, 201
Table of Contents
The information in this prospectus supplement is not complete and may be changed. We may not sell these securities until the registration statement filed with the Securities and Exchange Commission is effective. This prospectus supplement is not an offer to sell these securities and is not soliciting an offer to buy these securities in any state where the offer or sale is not permitted.
Filed Pursuant to Rule 497
Registration Statement No. 333-162592
PROSPECTUS SUPPLEMENT
(To Prospectus dated , 201 )
% Notes due ,
We are offering promissory notes in an aggregate principal amount of $ , which we refer to as the Notes in this prospectus supplement. Our common stock is traded on The NASDAQ Global Select Market under the symbol “GLAD.” The last reported sale price for our common stock on , was $ per share. The net asset value per share of our common stock at the close of business on , 201 was $ per share.
You should read this prospectus supplement and the accompanying prospectus before deciding whether to invest in our Notes and you should retain them for future reference. Additional information about us, including our annual, quarterly and current reports, has been filed with the Securities and Exchange Commission. This information is available free of charge on our corporate website at http://www.gladstoneinvestment.com.
An investment in our Notes involves certain risks, including, among other things, risks relating to investments in securities of small, private and developing businesses. We describe some of these risks in the section entitled “Risk Factors,” which begins on page N-5 of this prospectus supplement and page 7 of the accompanying prospectus. Shares of closed-end investment companies frequently trade at a discount to their net asset value and this may increase the risk of loss of purchasers of our Notes. You should carefully consider these risks together with all of the other information contained in this prospectus supplement and the accompanying prospectus before making a decision to purchase our Notes.
The Notes do not represent a deposit or obligation of, and are not guaranteed or endorsed by, any bank or other insured depository institution, and are not federally insured by the Federal Deposit Insurance Corporation, the Federal Reserve Board or any other government agency.
| Per Note | Total | |||||||
| Public offering price |
$ | $ | ||||||
| Sales load |
$ | $ | ||||||
| Proceeds to us (before expenses)(1) |
$ | $ | ||||||
| (1) | Does not include offering expenses payable to us estimated to be $ . |
The Notes will be ready for delivery on or about , 201 .
, 201
Table of Contents
We have not authorized any dealer, salesman or other person to give any information or to make any representation other than those contained in this prospectus supplement or the accompanying prospectus. You must not rely upon any information or representation not contained in this prospectus supplement or the accompanying prospectus as if we had authorized it. This prospectus supplement and the accompanying prospectus do not constitute an offer to sell or a solicitation of any offer to buy any security other than the registered securities to which they relate, nor do they constitute an offer to sell or a solicitation of an offer to buy any securities in any jurisdiction to any person to whom it is unlawful to make such an offer or solicitation in such jurisdiction. The information contained in this prospectus supplement and any accompanying prospectus is accurate as of the dates on their respective covers only. Our business, financial condition, results of operations and prospects may have changed since such dates.
Prospectus Supplement
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| Prospectus | ||||
| Page | ||||
| Prospectus Summary |
1 | |||
| Additional Information |
6 | |||
| Risk Factors |
7 | |||
| Special Note Regarding Forward-Looking Statements |
21 | |||
| Use of Proceeds |
22 | |||
| Price Range of Common Stock and Distributions |
22 | |||
| Consolidated Selected Financial and Other Data |
24 | |||
| Management’s Discussion and Analysis of Financial Condition and Results of Operations |
25 | |||
| Sales of Common Stock Below Net Asset Value |
58 | |||
| Senior Securities |
63 | |||
| Business |
64 | |||
| Portfolio Companies |
75 | |||
| Management |
81 | |||
| Control Persons and Principal Stockholders |
93 | |||
| Dividend Reinvestment Plan |
94 | |||
| Material U.S. Federal Income Tax Considerations |
95 | |||
| Regulation as a Business Development Company |
98 | |||
| Description of Our Securities |
100 | |||
| Certain Provisions of Delaware Law and of Our Certificate of Incorporation and Bylaws |
104 | |||
| Share Repurchases |
107 | |||
| Plan of Distribution |
107 | |||
| Custodian, Transfer and Dividend Paying Agent and Registrar |
108 | |||
| Brokerage Allocation and Other Practices |
109 | |||
| Legal Matters |
109 | |||
| Experts |
109 | |||
| Financial Statements |
F-1 | |||
i
Table of Contents
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
All statements contained in this prospectus supplement or the accompanying prospectus, other than historical facts, may constitute “forward-looking statements.” These statements may relate to, among other things, future events or our future performance or financial condition. In some cases, you can identify forward-looking statements by terminology such as “may,” “might,” “believe,” “will,” “provided,” “anticipate,” “future,” “could,” “growth,” “plan,” “intend,” “expect,” “should,” “would,” “if,” “seek,” “possible,” “potential,” “likely” or the negative of such terms or comparable terminology. These forward-looking statements involve known and unknown risks, uncertainties and other factors that may cause our actual results, levels of activity, performance or achievements to be materially different from any future results, levels of activity, performance or achievements expressed or implied by such forward-looking statements. Such factors include, among others: (1) further adverse changes in the economy and the capital markets; (2) risks associated with negotiation and consummation of pending and future transactions; (3) the loss of one or more of our executive officers, in particular David Gladstone, Terry Lee Brubaker or George Stelljes III ; (4) changes in our business strategy; (5) availability, terms and deployment of capital; (6) changes in our industry, interest rates, exchange rates or the general economy; (7) the degree and nature of our competition; and (8) those factors described in the “Risk Factors” sections of this prospectus supplement and the accompanying prospectus. We caution readers not to place undue reliance on any such forward-looking statements, which speak only as of the date made. We undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise, after the date of this prospectus supplement.
| Principal Amount |
The principal amount of the Notes is $ in the aggregate. | |
| Maturity |
The principal amount of the Notes will become due and payable on , . | |
| Interest Rate |
The interest rate will be %. | |
| Frequency of payment |
Interest will be paid commencing . | |
| Prepayment Protections |
[To be provided.] | |
| Conversion |
[To be provided.] | |
| [Stock Exchange Listing] |
[To be provided.] | |
| Rating |
It is a condition of issuance that the notes be rated [ ] by [ ]. | |
N-1
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[To be provided.]
We intend to use the net proceeds from this offering first to pay down existing short-term debt, then to make investments in small and mid-sized businesses in accordance with our investment objectives, with any remaining proceeds to be used for other general corporate purposes. Indebtedness under our credit line facility currently accrues interest at the rate of approximately [ ]% and matures on , . We anticipate that substantially all of the net proceeds of this offering will be utilized in the manner described above within three months of the completion of the offering. Pending such utilization, we intend to invest the net proceeds of this offering primarily in cash, cash equivalents, U.S. government securities, and other high-quality debt investments that mature in one year or less from the date of investment, consistent with the requirements for continued qualification as a RIC for federal income tax purposes.
[To be provided.]
[To be provided.]
[To be provided.]
[To be provided.]
The legality of securities offered hereby will be passed upon for us by Cooley LLP, Reston, Virginia. [Certain legal matters will be passed upon for the underwriters by .]
N-1
Table of Contents
Gladstone Capital Corporation
% Notes due ,
PROSPECTUS SUPPLEMENT
, 201
Table of Contents
The information in this prospectus supplement is not complete and may be changed. We may not sell these securities until the registration statement filed with the Securities and Exchange Commission is effective. This prospectus supplement is not an offer to sell these securities and is not soliciting an offer to buy these securities in any state where the offer or sale is not permitted.
Filed Pursuant to Rule 497
Registration Statement No. 333-162592
PROSPECTUS SUPPLEMENT
(To Prospectus dated , 201 )
Warrants for Common Stock
We are offering for sale warrants to purchase shares of common stock of the Company, which we refer to as Common Warrants, at an exercise price equal to $ per whole share. No fractional Common Warrants will be issued. Our common stock is traded on The NASDAQ Global Select Market under the symbol “GLAD.” The last reported sale price for our common stock on , was $ per share. The net asset value per share of our common stock at the close of business on , 201 was $ per share.
Currently, no public market exists for the Common Warrants offered by this prospectus supplement. It is anticipated that the Common Warrants will be quoted on promptly after the date of this prospectus supplement.
| Per Warrant | Total (1) | |||||||
| Public offering price |
$ | $ | ||||||
| Underwriting discounts and commissions |
$ | $ | ||||||
| Proceeds, before expenses, to us |
$ | $ | ||||||
| (1) | The aggregate expenses of the offering are estimated to be $ . |
The Underwriters are expected to deliver the Common Warrants in book-entry form through the Depositary Trust Company on or about , .
You should read this prospectus supplement and the accompanying prospectus before deciding whether to invest in our Common Warrants and you should retain them for future reference. Additional information about us, including our annual, quarterly and current reports, has been filed with the Securities and Exchange Commission. This information is available free of charge on our corporate website at http://www.gladstoneinvestment.com.
An investment in our Common Warrants involves certain risks, including, among other things, risks relating to investments in securities of small, private and developing businesses. We describe some of these risks in the section entitled “Risk Factors,” which begins on page W-7 of this prospectus supplement and page 7 of the accompanying prospectus. Shares of closed-end investment companies frequently trade at a discount to their net asset value and this may increase the risk of loss of purchasers of our Common Warrants. You should carefully consider these risks together with all of the other information contained in this prospectus supplement and the accompanying prospectus before making a decision to purchase our Common Warrants.
The Common Warrants being offered have not been approved or disapproved by the Securities and Exchange Commission or any state securities commission nor has the Securities and Exchange Commission or any state securities commission passed upon the accuracy or adequacy of this prospectus supplement or the accompanying prospectus. Any representation to the contrary is a criminal offense.
, 201
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We have not authorized any dealer, salesman or other person to give any information or to make any representation other than those contained in this prospectus supplement or the accompanying prospectus. You must not rely upon any information or representation not contained in this prospectus supplement or the accompanying prospectus as if we had authorized it. This prospectus supplement and the accompanying prospectus do not constitute an offer to sell or a solicitation of any offer to buy any security other than the registered securities to which they relate, nor do they constitute an offer to sell or a solicitation of an offer to buy any securities in any jurisdiction to any person to whom it is unlawful to make such an offer or solicitation in such jurisdiction. The information contained in this prospectus supplement and any accompanying prospectus is accurate as of the dates on their respective covers only. Our business, financial condition, results of operations and prospects may have changed since such dates.
Prospectus Supplement
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| W-2 | ||||
| W-4 | ||||
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| Prospectus | ||||
| Page | ||||
| Prospectus Summary |
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| Additional Information |
6 | |||
| Risk Factors |
7 | |||
| Special Note Regarding Forward-Looking Statements |
21 | |||
| Use of Proceeds |
22 | |||
| Price Range of Common Stock and Distributions |
22 | |||
| Consolidated Selected Financial and Other Data |
24 | |||
| Management’s Discussion and Analysis of Financial Condition and Results of Operations |
25 | |||
| Sales of Common Stock Below Net Asset Value |
58 | |||
| Senior Securities |
63 | |||
| Business |
64 | |||
| Portfolio Companies |
75 | |||
| Management |
81 | |||
| Control Persons and Principal Stockholders |
93 | |||
| Dividend Reinvestment Plan |
94 | |||
| Material U.S. Federal Income Tax Considerations |
95 | |||
| Regulation as a Business Development Company |
98 | |||
| Description of Our Securities |
100 | |||
| Certain Provisions of Delaware Law and of Our Certificate of Incorporation and Bylaws |
104 | |||
| Share Repurchases |
107 | |||
| Plan of Distribution |
107 | |||
| Custodian, Transfer and Dividend Paying Agent and Registrar |
108 | |||
| Brokerage Allocation and Other Practices |
109 | |||
| Legal Matters |
109 | |||
| Experts |
109 | |||
| Financial Statements |
F-1 | |||
i
Table of Contents
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
All statements contained in this prospectus supplement or the accompanying prospectus, other than historical facts, may constitute “forward-looking statements.” These statements may relate to, among other things, future events or our future performance or financial condition. In some cases, you can identify forward-looking statements by terminology such as “may,” “might,” “believe,” “will,” “provided,” “anticipate,” “future,” “could,” “growth,” “plan,” “intend,” “expect,” “should,” “would,” “if,” “seek,” “possible,” “potential,” “likely” or the negative of such terms or comparable terminology. These forward-looking statements involve known and unknown risks, uncertainties and other factors that may cause our actual results, levels of activity, performance or achievements to be materially different from any future results, levels of activity, performance or achievements expressed or implied by such forward-looking statements. Such factors include, among others: (1) further adverse changes in the economy and the capital markets; (2) risks associated with negotiation and consummation of pending and future transactions; (3) the loss of one or more of our executive officers, in particular David Gladstone, Terry Lee Brubaker or George Stelljes III ; (4) changes in our business strategy; (5) availability, terms and deployment of capital; (6) changes in our industry, interest rates, exchange rates or the general economy; (7) the degree and nature of our competition; and (8) those factors described in the “Risk Factors” sections of this prospectus supplement and the accompanying prospectus. We caution readers not to place undue reliance on any such forward-looking statements, which speak only as of the date made. We undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise, after the date of this prospectus supplement.
| Exercise Price |
Each Common Warrant will be exercisable at an exercise price of $ per whole share of common stock of the Company. | |
| Exercise Period |
The Common Warrants will be exercisable until the date that is years from the original date of issuance, or the Exercise Period. The rights represented by the Common Warrants may be exercised in whole or in part at any time during the Exercise Period. | |
| [Stock Exchange Listing] |
[To be provided.] | |
| [Non-Call Period |
The Common Warrants may not be called for redemption at the option of the Company prior to .] | |
| No Stockholder Rights |
The Common Warrants do not entitle the holder to any voting rights or other rights as a stockholder of the Company. | |
W-1
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The following table is intended to assist you in understanding the costs and expenses that an investor in this offering will bear directly or indirectly. We caution you that some of the percentages indicated in the table below are estimates and may vary. Except where the context suggests otherwise, whenever this prospectus contains a reference to fees or expenses paid by “us” or “Gladstone Investment,” or that “we” will pay fees or expenses, stockholders will indirectly bear such fees or expenses as investors in Gladstone Investment. The following percentages were calculated based on actual expenses incurred in the year ended , and average net assets for the quarter ended , .
| Stockholder Transaction Expenses: |
||||
| Sales load (as a percentage of offering price) |
[ | ]% | ||
| Dividend reinvestment plan expenses(1) |
[ | ] | ||
| Annual expenses (as a percentage of net assets attributable to common stock): |
||||
| Management fees(2) |
[ | ]% | ||
| Incentive fees payable under investment advisory and management agreement (20% of realized capital gains and 20% of pre-incentive fee net investment income)(3) |
[ | ]% | ||
| Interest payments on borrowed funds(4) |
[ | ]% | ||
| Other expenses(5) |
[ | ]% | ||
| Total annual expenses (2)(5) |
[ | ]% |
| (1) | The expenses of the reinvestment plan are included in stock record expenses, a component of “Other expenses.” We do not have a cash purchase plan. The participants in the dividend reinvestment plan will bear a pro rata share of brokerage commissions incurred with respect to open market purchases, if any. See “Dividend Reinvestment Plan” in the accompanying prospectus for information on the dividend reinvestment plan. |
| (2) | Our annual base management fee is 2% (0.5% quarterly) of our average gross assets, which are defined as total assets of Gladstone Investment, including investments made with proceeds of borrowings, less any uninvested cash or cash equivalents resulting from borrowings. For the fiscal year ended , , our Adviser voluntarily agreed to waive the annual base management fee of 2% to [ ]% for those senior syndicated loans that we purchase using borrowings from our credit facility. However, because we held no senior syndicated loans purchased using borrowings under our credit facility during the quarter ended , , the waiver did not impact our expenses for that period, as reflected in the table above. See “Management — Certain Transactions — Investment Advisory and Management Agreement” in the accompanying prospectus and footnote 3 below. |
| (3) | The incentive fee consists of two parts: an income-based fee and a capital gains-based fee. The income-based fee is payable quarterly in arrears, and equals 20% of the excess, if any, of our pre-incentive fee net investment income that exceeds a 1.75% quarterly ([ ]% annualized) hurdle rate of our net assets, subject to a “catch-up” provision measured as of the end of each calendar quarter. The “catch-up” provision requires us to pay 100% of our pre-incentive fee net investment income with respect to that portion of such income, if any, that exceeds the hurdle rate but is less than 125% of the quarterly hurdle rate (or 2.1875%) in any calendar quarter (8.75% annualized). The catch-up provision is meant to provide our Adviser with 20% of our pre-incentive fee net investment income as if a hurdle rate did not apply when our pre-incentive fee net investment income exceeds 125% of the quarterly hurdle rate in any calendar quarter (8.75% annualized). The income-based incentive fee is computed and paid on income that may include interest that is accrued but not yet received in cash. Our pre-incentive fee net investment income used to calculate this part of the income-based incentive fee is also included in the amount of our gross assets used to calculate the 2% base management fee (see footnote 2 above). The capital gains-based incentive fee equals 20% of our net realized capital gains since our inception, if any, computed net of all realized capital losses and unrealized capital depreciation since our inception, less any prior payments, and is payable at the end of each fiscal year. |
Examples of how the incentive fee would be calculated are as follows:
| • | Assuming pre-incentive fee net investment income of 0.55%, there would be no income-based incentive fee because such income would not exceed the hurdle rate of 1.75%. |
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| • | Assuming pre-incentive fee net investment income of 2.00%, the income-based incentive fee would be as follows: |
= 100% × (2.00% — 1.75%)
= 0.25%
| • | Assuming pre-incentive fee net investment income of 2.30%, the income-based incentive fee would be as follows: |
= (100% × (“catch-up”: 2.1875% — 1.75%)) + (20%× (2.30% — 2.1875%))
= (100% × 0.4375%) + (20% × 0.1125%)
= 0.4375% + 0.0225%
= 0.46%
| • | Assuming net realized capital gains of 6% and realized capital losses and unrealized capital depreciation of 1%, the capital gains-based incentive fee would be as follows: |
= 20% × (6% — 1%)
= 20% × 5%
= 1%
For a more detailed discussion of the calculation of the two-part incentive fee, see “Management — Certain Transactions — Investment Advisory and Management Agreement” in the accompanying prospectus.
| (4) | Includes deferred financing costs. We entered into a revolving credit facility, effective , , under which our borrowing capacity is $[ ] million. We have drawn down on this credit facility and we expect to borrow additional funds in the future up to an amount so that our asset coverage, as defined in the 1940 Act, is at least 200% after each issuance of our senior securities. Assuming that we borrowed $[ ] million at an interest rate of [ ]% plus an additional fee related to borrowings of [ ]%, for an aggregate rate of [ ]%, interest payments and amortization of deferred financing costs on borrowed funds would have been [ ]% of our average net assets for the quarter ended , . |
| (5) | Includes our overhead expenses, including payments under the administration agreement based on our projected allocable portion of overhead and other expenses incurred by our Administrator in performing its obligations under the administration agreement. See “Management — Certain Transactions — Administration Agreement” in the accompanying prospectus. |
Example
The following example demonstrates the projected dollar amount of total cumulative expenses that would be incurred over various periods with respect to a hypothetical investment in our common stock. In calculating the following expense amounts, we have assumed that our annual operating expenses would remain at the levels set forth in the table above.
| 1 Year | 3 Years | 5 Years | 10 Years | |||||||||||||
| You would pay the following expenses on a $1,000 investment, assuming a 5% annual return |
$ | [ | ] | $ | [ | ] | $ | [ | ] | $ | [ | ] | ||||
While the example assumes, as required by the SEC, a 5% annual return, our performance will vary and may result in a return greater or less than 5%. Additionally, we have assumed that the entire amount of such 5% annual return would constitute ordinary income as we have not historically realized positive capital gains (computed net of all realized capital losses) on our investments. Because the assumed 5% annual return is significantly below the hurdle rate of 7% (annualized) that we must achieve under the investment advisory and management agreement to trigger the payment of an income-based incentive fee, we have assumed, for purposes
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of the above example, that no income-based incentive fee would be payable if we realized a 5% annual return on our investments. Additionally, because the capital gains-based incentive fee is calculated on a cumulative basis (computed net of all realized capital losses and unrealized capital depreciation) and because of the significant capital losses realized to date, we have assumed that we will not trigger the payment of any capital gains-based incentive fee in any of the indicated time periods. If we achieve sufficient returns on our investments, including through the realization of capital gains, to trigger an incentive fee of a material amount, our expenses on a $1,000 investment, assuming a 5% annual return, consisting entirely of capital gains would be $[ ] for 1 year, $[ ] for 3 years, $[ ] for 5 years and $[ ] for 10 years. In addition, while the example assumes reinvestment of all dividends and distributions at net asset value, participants in our dividend reinvestment plan will receive a number of shares of our common stock, determined by dividing the total dollar amount of the dividend payable to a participant by the market price per share of our common stock at the close of trading on the valuation date for the dividend. See “Dividend Reinvestment Plan” in the accompanying prospectus for additional information regarding our dividend reinvestment plan.
This example and the expenses in the table above should not be considered a representation of our future expenses, and actual expenses (including the cost of debt, incentive fees, if any, and other expenses) may be greater or less than those shown.
[To be provided.]
We intend to use the net proceeds from this offering first to pay down existing short-term debt, then to make investments in small and mid-sized businesses in accordance with our investment objectives, with any remaining proceeds to be used for other general corporate purposes. Indebtedness under our credit line facility currently accrues interest at the rate of approximately [ ]% and matures on , . We anticipate that substantially all of the net proceeds of this offering will be utilized in the manner described above within three months of the completion of the offering. Pending such utilization, we intend to invest the net proceeds of this offering primarily in cash, cash equivalents, U.S. government securities, and other high-quality debt investments that mature in one year or less from the date of investment, consistent with the requirements for continued qualification as a RIC for federal income tax purposes.
[To be provided.]
PRICE RANGE OF COMMON STOCK AND DISTRIBU TIONS
We currently intend to distribute in the form of cash dividends, a minimum of 90% of our ordinary income and short-term capital gains, if any, on a quarterly basis to our stockholders in the form of monthly dividends. We intend to retain long-term capital gains and treat them as deemed distributions for tax purposes. We report the estimated tax characteristics of each distribution when declared while the actual tax characteristics of distributions are reported annually to each stockholder on Form 1099 — DIV. There is no assurance that we will achieve investment results or maintain a tax status that will permit any specified level of cash distributions or year-to-year increases in cash distributions. At the option of a holder of record of common stock, all cash distributions can be reinvested automatically under our dividend reinvestment plan in additional whole and fractional shares. A stockholder whose shares are held in the name of a broker or other nominee should contact the broker or nominee regarding participation in our dividend reinvestment plan on the stockholder’s behalf. See “Risk Factors — We will be subject to corporate-level tax if we are unable to satisfy Code requirements for RIC qualification;” “Dividend Reinvestment Plan;” and “Material U.S. Federal Income Tax Considerations” in the accompanying prospectus.
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Our common stock is quoted on The NASDAQ Global Select Market under the symbol “GLAD.” Our common stock has historically traded at prices both above and below its net asset value. There can be no assurance, however, that any premium to net asset value will be attained or maintained. As of , , we had [ ] stockholders of record.
[To be provided.]
[To be provided.]
[To be provided.]
The legality of securities offered hereby will be passed upon for us by Cooley LLP, Reston, Virginia. [Certain legal matters will be passed upon for the underwriters by .]
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Gladstone Capital Corporation
Warrants for Common Stock
PROSPECTUS SUPPLEMENT
, 201
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The information in this prospectus supplement is not complete and may be changed. We may not sell these securities until the registration statement filed with the Securities and Exchange Commission is effective. This prospectus supplement is not an offer to sell these securities and is not soliciting an offer to buy these securities in any state where the offer or sale is not permitted.
Filed Pursuant to Rule 497
Registration Statement No. 333-162592
PROSPECTUS SUPPLEMENT
(To Prospectus dated , 201 )
Warrants for Series [ ] Preferred Stock
We are offering for sale warrants to purchase shares of Series [ ] Preferred Stock of the Company, which we refer to as Preferred Warrants, at an exercise price equal to $ per whole share. No fractional Preferred Warrants will be issued. Our common stock is traded on The NASDAQ Global Select Market under the symbol “GLAD.” The last reported sale price for our common stock on , was $ per share. The net asset value per share of our common stock at the close of business on , 201 was $ per share. Our preferred stock is traded on [ ] under the symbol [ ]. The last reported sale of our preferred stock on , 201 was $ per share.
Currently, no public market exists for the Preferred Warrants offered by this prospectus supplement. It is anticipated that the Preferred Warrants will be quoted on promptly after the date of this prospectus supplement.
| Per Warrant |
Total (1) | |||
| Public offering price |
$ | $ | ||
| Underwriting discounts and commissions |
$ | $ | ||
| Proceeds, before expenses, to us |
$ | $ | ||
| (1) | The aggregate expenses of the offering are estimated to be $ . |
The Underwriters are expected to deliver the Preferred Warrants in book-entry form through the Depositary Trust Company on or about , .
You should read this prospectus supplement and the accompanying prospectus before deciding whether to invest in our Preferred Warrants and you should retain them for future reference. Additional information about us, including our annual, quarterly and current reports, has been filed with the Securities and Exchange Commission. This information is available free of charge on our corporate website at http://www.gladstoneinvestment.com.
An investment in our Preferred Warrants involves certain risks, including, among other things, risks relating to investments in securities of small, private and developing businesses. We describe some of these risks in the section entitled “Risk Factors,” which begins on page WP-6 of this prospectus supplement and page 7 of the accompanying prospectus. Shares of closed-end investment companies frequently trade at a discount to their net asset value and this may increase the risk of loss of purchasers of our Preferred Warrants. You should carefully consider these risks together with all of the other information contained in this prospectus supplement and the accompanying prospectus before making a decision to purchase our Preferred Warrants.
The Preferred Warrants being offered have not been approved or disapproved by the Securities and Exchange Commission or any state securities commission nor has the Securities and Exchange Commission or any state securities commission passed upon the accuracy or adequacy of this prospectus. Any representation to the contrary is a criminal offense.
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We have not authorized any dealer, salesman or other person to give any information or to make any representation other than those contained in this prospectus supplement or the accompanying prospectus. You must not rely upon any information or representation not contained in this prospectus supplement or the accompanying prospectus as if we had authorized it. This prospectus supplement and the accompanying prospectus do not constitute an offer to sell or a solicitation of any offer to buy any security other than the registered securities to which they relate, nor do they constitute an offer to sell or a solicitation of an offer to buy any securities in any jurisdiction to any person to whom it is unlawful to make such an offer or solicitation in such jurisdiction. The information contained in this prospectus supplement and any accompanying prospectus is accurate as of the dates on their respective covers only. Our business, financial condition, results of operations and prospects may have changed since such dates.
Prospectus Supplement
| Page | ||||
| WP-1 | ||||
| WP-2 | ||||
| WP-2 | ||||
| WP-2 | ||||
| WP-2 | ||||
| WP-2 | ||||
| WP-2 | ||||
| WP-2 | ||||
| WP-2 | ||||
Prospectus
| Page | ||||
| Prospectus Summary |
1 | |||
| Additional Information |
6 | |||
| Risk Factors |
8 | |||
| Special Note Regarding Forward-Looking Statements |
22 | |||
| Use of Proceeds |
23 | |||
| Price Range of Common Stock and Distributions |
23 | |||
| Consolidated Selected Financial and Other Data |
25 | |||
| Management’s Discussion and Analysis of Financial Condition and Results of Operations |
26 | |||
| Sales of Common Stock Below Net Asset Value |
55 | |||
| Senior Securities |
60 | |||
| Business |
61 | |||
| Portfolio Companies |
72 | |||
| Management |
78 | |||
| Control Persons and Principal Stockholders |
90 | |||
| Dividend Reinvestment Plan |
91 | |||
| Material U.S. Federal Income Tax Considerations |
92 | |||
| Regulation as a Business Development Company |
95 | |||
| Description of Our Securities |
97 | |||
| Certain Provisions of Delaware Law and of Our Certificate of Incorporation and Bylaws |
101 | |||
| Share Repurchases |
104 | |||
| Plan of Distribution |
104 | |||
| Custodian, Transfer and Dividend Paying Agent and Registrar |
105 | |||
| Brokerage Allocation and Other Practices |
106 | |||
| Legal Matters |
106 | |||
| Experts |
106 | |||
| Financial Statements |
F-1 | |||
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SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
All statements contained in this prospectus supplement or the accompanying prospectus, other than historical facts, may constitute “forward-looking statements.” These statements may relate to, among other things, future events or our future performance or financial condition. In some cases, you can identify forward-looking statements by terminology such as “may,” “might,” “believe,” “will,” “provided,” “anticipate,” “future,” “could,” “growth,” “plan,” “intend,” “expect,” “should,” “would,” “if,” “seek,” “possible,” “potential,” “likely” or the negative of such terms or comparable terminology. These forward-looking statements involve known and unknown risks, uncertainties and other factors that may cause our actual results, levels of activity, performance or achievements to be materially different from any future results, levels of activity, performance or achievements expressed or implied by such forward-looking statements. Such factors include, among others: (1) further adverse changes in the economy and the capital markets; (2) risks associated with negotiation and consummation of pending and future transactions; (3) the loss of one or more of our executive officers, in particular David Gladstone, Terry Lee Brubaker or George Stelljes III ; (4) changes in our business strategy; (5) availability, terms and deployment of capital; (6) changes in our industry, interest rates, exchange rates or the general economy; (7) the degree and nature of our competition; and (8) those factors described in the “Risk Factors” sections of this prospectus supplement and the accompanying prospectus. We caution readers not to place undue reliance on any such forward-looking statements, which speak only as of the date made. We undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise, after the date of this prospectus supplement.
| Exercise Price |
Each Preferred Warrant will be exercisable at an exercise price of $ per whole share of Series [ ] Preferred Stock of the Company. | |
| Exercise Period |
The Preferred Warrants will be exercisable until the date that is years from the original date of issuance, or the Exercise Period. The rights represented by the warrant may be exercised in whole or in part at any time during the Exercise Period. | |
| [Stock Exchange Listing] |
[To be provided.] | |
| [Non-Call Period |
The Preferred Warrants may not be called for redemption at the option of the Company prior to .] | |
| No Stockholder Rights |
The Preferred Warrants do not entitle the holder to any voting rights or other rights as a stockholder of the Company. | |
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TERMS OF THE SERIES [ ] PREFERRED STOCK
| Dividend Rate |
The dividend rate will be %. | |
| Dividend Payment Rate |
[Dividends will be paid when, as and if declared on , , , and , commencing .] The payment date for the initial dividend period will be .] | |
| Regular Dividend Period |
Regular dividend periods will be days. | |
| Liquidation Preference |
$ per share | |
| Non-Call Period |
The shares may not be called for redemption at the option of the Company prior to . | |
| Stock Exchange Listing |
||
[To be provided.]
We intend to use the net proceeds from this offering first to pay down existing short-term debt, then to make investments in small and mid-sized businesses in accordance with our investment objectives, with any remaining proceeds to be used for other general corporate purposes. Indebtedness under our credit line facility currently accrues interest at the rate of approximately [ ]% and matures on , . We anticipate that substantially all of the net proceeds of this offering will be utilized in the manner described above within three months of the completion of the offering. Pending such utilization, we intend to invest the net proceeds of this offering primarily in cash, cash equivalents, U.S. government securities, and other high-quality debt investments that mature in one year or less from the date of investment, consistent with the requirements for continued qualification as a RIC for federal income tax purposes.
[To be provided.]
[To be provided.]
[To be provided.]
[To be provided.]
The legality of securities offered hereby will be passed upon for us by Cooley LLP, Reston, Virginia. [Certain legal matters will be passed upon for the underwriters by .]
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Gladstone Capital Corporation
Warrants for Series [ ] Preferred Stock
PROSPECTUS SUPPLEMENT
, 201
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Part C — OTHER INFORMATION
Item 25. Financial Statements and Exhibits
| 1. | Financial Statements |
The following financial statements of Gladstone Capital Corporation (the “Company” or the “Registrant”) are included in the Registration Statement in “Part A: Information Required in a Prospectus:”
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
| Audited Consolidated Financial Statements |
||
| F-2 | ||
| F-3 | ||
| Consolidated Statements of Assets and Liabilities as of September 30, 2011 and September 30, 2010 |
F-4 | |
| F-5 | ||
| F-6 | ||
| F-7 | ||
| Consolidated Schedules of Investments as of September 30, 2011 and 2010 |
F-8 | |
| F-22 | ||
| Financial Statements (Unaudited) |
||
| F-51 | ||
| F-52 | ||
| F-53 | ||
| F-54 | ||
| Condensed Consolidated Schedules of Investments as of December 31, 2011 and September 30, 2011 |
F-55 | |
| F-71 |
| 2. | Exhibits |
| Exhibit Number |
Description | |
| 2.a.1 | Articles of Amendment and Restatement of the Articles of Incorporation, incorporated by reference to Exhibit a.2 to Pre-Effective Amendment No. 1 to the Registration Statement on Form N-2 (File No. 333-63700), filed July 27, 2001. | |
| 2.a.2* | Articles Supplementary Establishing and Fixing the Rights and Preferences of the Term Preferred Shares, including Appendix A thereto relating to the Term Preferred Shares, 7.125% Series 2016. | |
| 2.b.1 | By-laws, incorporated by reference to Exhibit b to Pre-Effective Amendment No. 1 to the Registration Statement on Form N-2 (File No. 333-63700), filed July 27, 2001. | |
| 2.b.2 | Amendment to By-laws, incorporated by reference to Exhibit 3.3 to the Registrant’s Quarterly Report on Form 10-Q for the quarter ended December 31, 2003 (File No. 814-00237), filed February 17, 2004. | |
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| 2.b.3 | Second Amendment to By-laws, incorporated by reference to Exhibit 99.1 to the Registrant’s Current Report on Form 8-K (File No. 814-00237), filed July 10, 2007. | |
| 2.b.4 | Third Amendment to Bylaws, incorporated by reference to Exhibit 99.1 to the Registrant’s Current Report on Form 8-K (File No. 814-00237), filed June 10, 2011. | |
| 2.c | Not applicable. | |
| 2.d.1 | Form of Direct Registration Transaction Advice for the Registrant’s common stock, par value $0.001 per share, incorporated by reference to Exhibit d to Pre-Effective Amendment No. 1 to the Registration Statement on Form N-2 (File No. 333-63700), filed July 27, 2001. | |
| 2.d.2 | Specimen Stock Certificate, incorporated by reference to Exhibit d.2 to Pre-Effective Amendment No. 3 to the Registration Statement on Form N-2 (File No. 333-63700), filed August 23, 2001. | |
| 2.d.3* | Form of Senior Indenture. | |
| 2.d.4* | Form of Subordinated. Indenture. | |
| 2.d.5* | Specimen 7.125% Series 2016 Term Preferred stock certificate. | |
| 2.e | Dividend Reinvestment Plan, incorporated by reference to Exhibit 2.e to Pre-Effective Amendment No. 1 to the Registration Statement on Form N-2 (File No. 333-63700), filed July 27, 2001. | |
| 2.f | Not applicable. | |
| 2.g.1 | Amended and Restated Investment Advisory and Management Agreement between Gladstone Capital Corporation and Gladstone Management Corporation, dated as of October 1, 2006 incorporated by reference to Exhibit 99.1 to the Registrant’s Current Report on Form 8-K (File No. 814-00237), filed October 5, 2006 (renewed on July 7, 2010). | |
| 2.h.1* | Equity Distribution Agreement, dated as of May 17, 2010, by and among Gladstone Capital Corporation, Gladstone Management Corporation and BB&T Capital Markets, a division of Scott & Stringfellow, LLC. | |
| 2.i | Not applicable. | |
| 2.j | Custodian Agreement between Gladstone Capital Corporation and The Bank of New York, dated as of May 5, 2006, incorporated by reference to Exhibit 10.3 to the Registrant’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2006 (File No. 814-00237), filed August 1, 2006. | |
| 2.k.1 | Promissory Note of David Gladstone in favor of the Company, dated August 23, 2001, incorporated by reference to Exhibit 10.4 to the Registrant’s Quarterly Report on Form 10-Q for the period ended June 30, 2001, filed October 4, 2001. | |
| 2.k.2 | Redemption Agreement, dated as of September 7, 2010, between Gladstone Capital Corporation and David Gladstone, incorporated by reference to Exhibit 10.10 to the Registrant’s Annual Report on Form 10-K (File No. 814-00237), filed November 22, 2010. | |
| 2.k.3 | Third Amended and Restated Credit Agreement dated as of May 15, 2009 by and among Gladstone Business Loan, LLC as Borrower, Gladstone Management Corporation as Servicer, the Committed Lenders named therein, the CP Lenders named therein, the Managing Agents named therein, and Key Equipment Finance Inc. as Administrative Agent, incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K (File No. 814-00237), filed May 19, 2009. | |
| 2.k.4 | Administration Agreement between Gladstone Capital Corporation and Gladstone Administration, LLC, dated as of October 1, 2006 incorporated by reference to Exhibit 99.1 to the Registrant’s Current Report on Form 8-K (File No. 814-00237), filed October 5, 2006 (renewed on July 7, 2010). | |
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| 2.k.5 | Fourth Amended and Restated Credit Agreement dated as of March 15, 2010 by and among Gladstone Business Loan, LLC as Borrower, Gladstone Management Corporation as Servicer, the Lenders named therein, the Managing Agents named therein, and Key Equipment Finance Inc. as Administrative Agent, incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K (File No. 814-00237), filed March 16, 2010. | |
| 2.k.6 | Amendment No. 1 to Fourth Amended and Restated Credit Agreement dated as of November 22, 2010 by and among Gladstone Business Loan, LLC as Borrower, Gladstone Management Corporation as Servicer, the Committed Lenders named therein, the Managing Agents named therein, and Key Equipment Finance Inc. as Administrative Agent, incorporated by reference to Exhibit 10.8 to the Registrant’s Annual Report on Form 10-K (File No. 814-00237), filed November 22, 2010. | |
| 2.l* | Opinion of Cooley Godward Kronish LLP. | |
| 2.m | Not applicable. | |
| 2.n.1 | Consent of Independent Registered Public Accounting Firm. | |
| 2.n.2* | Consent of Cooley Godward Kronish LLP (included in Exhibit 2.1). | |
| 2.n.3 | Report of Independent Registered Public Accounting Firm on Financial Statement Schedule. | |
| 2.o | Not applicable. | |
| 2.p | Subscription Agreement dated May 30, 2001, incorporated by reference to incorporated by reference to Exhibit p to the Registration Statement on Form N-2 (File No. 333-63700), filed June 22, 2001. | |
| 2.q | Not applicable. | |
| 2.r | Code of Ethics and Business Conduct, incorporated by reference to Exhibit 14.1 to the Registrant’s Current Report on Form 8-K (File No. 814-00237), filed October 12, 2005. | |
| 2.s.1* | Power of Attorney. | |
| 2.s.2* | Power of Attorney. | |
| * | Previously filed. |
Item 26. Marketing Arrangements
The information contained under the heading “Plan of Distribution” on page 132 of the prospectus is incorporated herein by reference, and any information concerning any underwriters will be contained in the accompanying prospectus supplement, if any.
Item 27. Other Expenses of Issuance and Distribution
| Commission registration fee |
$ | 16,740 | ||
| FINRA fee |
30,500 | |||
| Accounting fees and expenses |
75,000 | * | ||
| Printing and engraving |
150,000 | * | ||
| Legal fees and expenses |
300,000 | * | ||
|
|
|
|||
| Total |
$ | 572,240 | * | |
|
|
|
| * | These amounts are estimates. |
All of the expenses set forth above shall be borne by the Registrant.
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Item 28. Persons Controlled by or Under Common Control
Gladstone Capital Advisers, Inc., a Delaware corporation and wholly-owned subsidiary of the Registrant.
U.S. Healthcare Communications, Inc., a Delaware corporation and wholly-owned subsidiary of the Registrant.
USHC Legal Inc., a New Jersey corporation and wholly-owned subsidiary of the Registrant.
Gladstone Business Loan, LLC, a Delaware limited liability company and wholly-owned subsidiary of the Registrant.
Gladstone Financial Corporation, a Delaware corporation and wholly-owned subsidiary of the Registrant.
BERTL, Inc., a Delaware corporation controlled by the Registrant through 29% common stock ownership.
LYP Holdings Corp., a Delaware corporation controlled by the Registrant.
LocalTel, LLC, a Delaware limited liability company controlled by LYP Holdings Corp., through 57% ownership.
LYP, LLC, a Delaware limited liability company controlled by LYP Holdings Corp., through 100% ownership.
Lindmark Acquisition, LLC a Delaware limited liability company controlled by Lindmark Holdings Corp., through 50% ownership.
Lindmark Holdings Corp., a Delaware corporation controlled by the Registrant.
Defiance Integrated Technologies, Inc., a Delaware corporation controlled by the Registrant, through 58% ownership.
1090 Perry Acquisition Corp., a Delaware corporation controlled by Defiance Integrated Technologies, Inc., through 100% ownership.
JBM Tool & Die, Inc., a Delaware corporation controlled by Defiance Integrated Technologies, Inc., through 100% ownership.
Pro Shear Corporation, a Delaware corporation controlled by Defiance Integrated Technologies, Inc., through 100% ownership.
Midwest Metal Distribution, Inc., a Delaware corporation controlled by Gladstone Metal, LLC through 70% ownership.
Gladstone Metal, LLC, a Delaware limited liability company controlled by the Registrant.
Kansas Cable Holdings, Inc., a Delaware corporation controlled by the Registrant through 100% ownership.
Sunshine Media Group, Inc., a Delaware corporation controlled by the Registrant through 50% ownership.
Publication Holdings, Inc., a Delaware corporation controlled by the Registrant through 100% ownership.
Georgia Film Holdings, LLC, a Delaware limited liability company controlled by the Registrant through 100% ownership.
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Gladstone Investment Corporation, a Delaware corporation controlled by the Registrant’s officers and directors.
Gladstone Business Investment, LLC, a Delaware limited liability company and wholly-owned subsidiary of Gladstone Investment Corporation.
Gladstone Investment Advisers, Inc., a Delaware corporation and wholly-owned subsidiary of Gladstone Investment Corporation ..
ACME Cryogenics Inc., a Pennsylvania corporation controlled by Gladstone Investment Corporation through 53% ownership.
CCE Investment Corp., a Delaware corporation and wholly-owned subsidiary of Gladstone Investment Corporation.
Mustang Eagle Partnership, LLC, a Delaware limited liability company and wholly-owned subsidiary of CCE Investment Corp.
Country Club Enterprises, LLC, a Massachusetts limited liability company, controlled by Mustang Eagle Partnership, LLC through 52% ownership.
ASH Holdings Corp., a Delaware corporation and wholly-owned subsidiary of Gladstone Investment Corporation.
Auto Safety House, LLC, a Delaware limited liability company, controlled by ASH Holdings, Corp. through 74% ownership.
Galaxy Tool Holding Corporation, a Delaware corporation controlled by Gladstone Investment Corporation through 60% ownership.
Mathey Investments, Inc., a Oklahoma corporation controlled by the Gladstone Investment Corporation through 97% ownership.
Tread Corporation, a Delaware corporation controlled by Gladstone Investment Corporation through 51% ownership.
Neville Limited, a Delaware corporation controlled by Gladstone Investment Corporation through 100% stock ownership.
Quench Holdings Corp., a Delaware corporation controlled by Gladstone Investment Corporation.
Precision Southeast Holdings, Inc., a Delaware corporation controlled by Gladstone Investment Corporation through 91% stock ownership.
SBS Industries Holdings, Inc., a Delaware corporation controlled by the Registrant through 85% ownership.
SBS Industries, LLC, a Delaware limited liability company controlled by SBS Industries Holdings, Inc. through 100% ownership.
Venyu Solutions, Inc, a Louisiana corporation controlled by Venyu Holdings, LLC through 100% ownership.
Venyu Holdings, LLC, a Delaware limited liability company controlled by Venyu Investments, LLC though 60% ownership.
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Venyu Investments, LLC, a Delaware limited liability company controlled by Gladstone Investment Corporation through 100% ownership.
MRP Holdings Corp., a Delaware corporation controlled by Gladstone Investment Corporation through 30% ownership.
Gladstone SOG Investments, Inc., a Delaware corporation and wholly-owned subsidiary of the Registrant.
SOG Investment I LLC, a Delaware limited liability company controlled by Gladstone SOG Investments, Inc. through 100% ownership.
GAIN CTG Holdings, Inc., a Delaware corporation controlled by the Registrant through 100% ownership.
Gladstone Commercial Corporation, a Maryland corporation controlled by the Registrant’s officers and directors.
GCLP Business Trust I, a Massachusetts business trust controlled by Gladstone Commercial Corporation.
GCLP Business Trust II, a Massachusetts business trust controlled by Gladstone Commercial Partners, LLC.
Gladstone Commercial Partners, LLC, a Delaware limited liability company and wholly-owned subsidiary of Gladstone Commercial Corporation.
Gladstone Commercial Advisers, Inc., a Delaware corporation and wholly-owned subsidiary of Gladstone Commercial Corporation.
First Park Ten COCO San Antonio GP LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
First Park Ten COCO San Antonio LP, a Delaware limited partnership controlled by its general partner, First Park Ten COCO San Antonio GP LLC.
COCO04 Austin TX GP LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
COCO04 Austin TX LP, a Delaware limited partnership controlled by its general partner, COCO04 Austin TX GP LLC.
Pocono PA GCC, LP, a Delaware limited partnership controlled by its general partner, Pocono PA GCC GP LLC.
Gladstone Commercial Limited Partnership, a Delaware limited partnership controlled by its general partner GCLP Business Trust II.
GCC Acquisition Holdings LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
SLEE Grand Prairie LP, a Delaware limited partnership controlled by its general partner, GCC Acquisition Holdings, Inc.
EE 208 South Rogers Lane, Raleigh, NC LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
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Gladstone Commercial Lending LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
260 Springside Drive Akron OH LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
Little Arch04 Charlotte NC Member LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
Little Arch Charlotte NC LLC, a Delaware limited liability company controlled by its sole member, Little Arch04 Charlotte NC Member LLC.
CMI04 Canton NC LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
OB Midway NC Gladstone Commercial LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
GCC Granby LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
Granby Property Trust, a Delaware statutory trust controlled by its grantor, GCC Granby LLC.
GCC Dorval LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
Dorval Property Trust, a Delaware statutory trust controlled by its grantor, GCC Dorval LLC.
3094174 Nova Scotia Company, a Nova Scotia corporation controlled by its sole stockholder, Gladstone Commercial Limited Partnership.
3094175 Nova Scotia Company, a Nova Scotia corporation controlled by its sole stockholder, Gladstone Commercial Limited Partnership.
WMI05 Columbus OH LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
2525 N Woodlawn Vstrm Wichita KS LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
Corning Big Flats LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
OB Crenshaw SPE GP LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
OB Crenshaw GCC LP, a Delaware limited partnership controlled by its general partner, OB Crenshaw SPE GP LLC.
HMBF05 Newburyport MA LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
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YorkTC05 Eatontown NJ LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
STI05 Franklin NJ LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
AFL05 Duncan SC Member LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
AFL05 Duncan SC LLC, a Delaware limited liability company controlled by its sole member, AFL05 Duncan SC Member LLC.
MSI05-3 LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
WMI05 Hazelwood MO LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
CI05 Clintonville WI LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
PZ05 Maple Heights OH LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
YCC06 South Hadley MA LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
NW05 Richmond VA LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
SVMMC05 Toledo OH LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
ACI06 Champaign IL LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
UC06 Roseville MN LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
TCI06 Burnsville MN LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
RC06 Menomonee Falls WI LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
SJMH06 Baytown TX GP LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
SJMH06 Baytown TX LP, a Delaware limited partnership controlled by its general partner, SJMH06 Baytown TX GP LLC.
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NJT06 Sterling Heights MI LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
CMS06-3 LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
MPI06 Mason OH LLC, a Delaware limited liability company, controlled by its manager, Gladstone Commercial Limited Partnership.
GSM LLC, a Delaware limited liability company, controlled by its manager, Gladstone Commercial Limited Partnership.
AC07 Lawrenceville GA LLC, a Delaware limited liability company, controlled by its manager, Gladstone Commercial Limited Partnership.
EE07 Raleigh NC GP LLC, a Delaware limited liability company, controlled by its manager, Gladstone Commercial Limited Partnership.
EE07 Raleigh NC, L.P., a Delaware limited partnership, controlled by its general partner, EE07 Raleigh NC GP LLC.
WPI07 Tulsa OK LLC, a Delaware limited liability company, controlled by its manager, Gladstone Commercial Limited Partnership.
APML07 Hialeah FL LLC, a Delaware limited liability company, controlled by its manager, Gladstone Commercial Limited Partnership.
EI07 Tewksbury MA LLC, a Delaware limited liability company, controlled by its manager, Gladstone Commercial Limited Partnership.
GBI07 Syracuse NY LLC, a Delaware limited liability company, controlled by its manager, Gladstone Commercial Limited Partnership.
CDLCI07 Mason OH LLC, a Delaware limited liability company, controlled by its manager, Gladstone Commercial Limited Partnership.
FTCH107 Grand Rapids MI LLC, a Delaware limited liability company, controlled by its manager, Gladstone Commercial Limited Partnership.
DBP107 Bolingbrook IL LLC, a Delaware limited liability company, controlled by its manager, Gladstone Commercial Limited Partnership.
Pocono PA GCC GP LLC, a Delaware limited liability company, controlled by its manager, Gladstone Commercial Limited Partnership.
RCOG07 Georgia LLC, a Delaware limited liability company, controlled by its manager Gladstone Commercial Limited Partnership.
C08 Fridley MN LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
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SRFF08 Reading PA GP LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
SRFF08 Reading PA, L.P., a Delaware limited partnership controlled by its general partner, SRFF08 Reading PA GP LLC.
OS08 Winchester VA LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
RB08 Concord OH LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
RPT08 Pineville NC GP LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
RPT08 Pineville NC L.P., a Delaware limited partnership controlled by its general partner, RPT08 Pineville NC GP LLC.
FMCT08 Chalfont PA GP LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
FMCT08 Chalfont PA, L.P., a Delaware limited partnership controlled by its general partner, FMCT08 Chalfont PA GP LLC.
D08 Marietta OH LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
ELF08 Florida LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
SCC10 Orange City IA LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
TMC11 Springfield MO LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
FS11 Hickory NC GP LLC, a Delaware limited liability company controlled by its manager Gladstone Commercial Limited Partnership.
FS11 Hickory NC, LP, a Delaware limited partnership controlled by its general partner, FS11 Hickory NC GP LLC.
AFR11 Parsippany NJ LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
Hemingway at Boston Heights, LLC, a Ohio limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
WEC11 Dartmouth MA LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
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WC11 Springfield MO LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
CBP11 Green Tree PA GP LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
CBP11 Green Tree PA, L.P., a Delaware limited partnership controlled by its general partner, CBP11 Green Tree PA GP LLC.
IPA12 Ashburn VA LLC, a Delaware limited liability company controlled by its manager, Gladstone Commercial Limited Partnership.
Gladstone Land Corporation, a Maryland corporation controlled by David Gladstone through indirect 100% stock ownership.
Gladstone Land Partners, LLC, a Delaware limited liability company controlled by its manager, Gladstone Land Corporation.
Gladstone Land Advisers, Inc., a Delaware corporation and wholly-owned subsidiary of Gladstone Land Corporation.
Gladstone Land Limited Partnership, a Delaware limited partnership controlled by its general partner, Gladstone Land Partners, LLC.
San Andreas Road Watsonville LLC, a California limited liability company controlled by its manager, Gladstone Land Limited Partnership.
West Gonzales Road Oxnard LLC, a California limited liability company controlled by its manager, Gladstone Land Limited Partnership.
West Beach Street Watsonville, LLC, a California limited liability company controlled by its manager, Gladstone Land Limited Partnership.
Dalton Lane Watsonville, LLC, a California limited liability company controlled by its manager, Gladstone Land Limited Partnership.
Keysville Road Plant City, LLC, a Florida limited liability company controlled by its manager, Gladstone Land Limited Partnership.
Carlton Lake Road Plant City, LLC, a Florida limited liability company controlled by its manager, Gladstone Land Limited Partnership.
Gladstone Holding Corporation, a Delaware corporation controlled by David Gladstone through 100% indirect stock ownership.
Gladstone Management Corporation, a Delaware corporation controlled by Gladstone Holding Corporation, through 100% ownership.
Gladstone Administration, LLC, a Delaware limited liability company and wholly-owned subsidiary of Gladstone Holding Corporation.
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Gladstone Securities, LLC, a Connecticut limited liability company controlled by its member, Gladstone Holding Corporation.
Gladstone General Partner, LLC, a Delaware limited liability company controlled by its manager, Gladstone Management Corporation.
Gladstone Participation Fund LLC, a Delaware limited liability company controlled by Gladstone General Partner, LLC.
Gladstone Partners Fund, LP, a Delaware limited partnership controlled by its general partner, Gladstone Management Corporation.
Gladstone Lending Corporation, a Maryland corporation controlled by David Gladstone through 100% indirect stock ownership.
Item 29. Number of Holders of Securities
The following table sets forth the approximate number of record holders of our common stock at March 5, 2012.
| Title of Class |
Number of Record Holders |
|||
| Common Stock, par value $0.001 per share |
65 | |||
Item 30. Indemnification
Subject to the Investment Company Act of 1940, as amended (the “1940 Act”) or any valid rule, regulation or order of the Securities and Exchange Commission (“SEC”) thereunder, our articles of incorporation and bylaws provide that we will indemnify any person who was or is a party or is threatened to be made a party to any threatened action, suit or proceeding whether civil, criminal, administrative or investigative, by reason of the fact that he is or was our director or officer, or is or was serving at our request as a director, officer, partner or trustee of another corporation, real estate investment trust, partnership, joint venture, trust, employee benefit plan or other enterprise to the maximum extent permitted by Section 2-418 of the Annotated Code of Maryland, Corporations and Associations (the “Maryland Law”). The 1940 Act provides that a company may not indemnify any director or officer against liability to it or its security holders to which he or she might otherwise be subject by reason of his or her willful misfeasance, bad faith, gross negligence or reckless disregard of the duties involved in the conduct of his or her office unless a determination is made by final decision of a court, by vote of a majority of a quorum of directors who are disinterested, non-party directors or by independent legal counsel that the liability for which indemnification is sought did not arise out of the foregoing conduct. In addition to any indemnification to which our directors and officers are entitled pursuant to our articles of incorporation and bylaws and Maryland Law, our articles of incorporation and bylaws permit us to indemnify our other employees and agents to the fullest extent permitted by Maryland Law, whether such employees or agents are serving us or, at our request, any other entity.
In addition, the investment advisory and management agreement between us and our investment adviser, Gladstone Management Corporation (the “Adviser”), as well as the administration agreement between us and our administrator Gladstone Administration, LLC (the “Administrator”), each provide that, absent willful misfeasance, bad faith, or gross negligence in the performance of their respective duties or by reason of the reckless disregard of their respective duties and obligations, our Adviser or our Administrator, as applicable, and their respective officers, managers, partners, agents, employees, controlling persons, members, and any other person or entity affiliated with it are entitled to indemnification from us for any damages, liabilities, costs, and
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expenses (including reasonable attorneys’ fees and amounts reasonably paid in settlement) arising from the rendering of our Adviser’s services under the investment advisory and management agreement or otherwise as our investment adviser, or the rendering of our Administrator’s services under the administration agreement, as applicable.
Item 31. Business and Other Connections of Investment Adviser
A description of any other business, profession, vocation or employment of a substantial nature in which our Adviser, and each director or executive officer of our Adviser, is or has been during the past two fiscal years, engaged in for his or her own account or in the capacity of director, officer, employee, partner or trustee, is set forth in Part A of this Registration Statement in the section entitled “Management.” Additional information regarding our Adviser and its officers and directors is set forth in its Form ADV, as filed with the SEC, and is incorporated herein by reference.
Item 32. Location of Accounts and Records
All accounts, books or other documents required to be maintained by Section 31(a) of the 1940 Act and the rules thereunder are maintained at the offices of:
| (1) | the Registrant, Gladstone Capital Corporation, 1521 Westbranch Drive, Suite 200, McLean, VA 22102; |
| (2) | the Transfer Agent, Computershare Shareholder Services LLC, 480 Washington Boulevard, Jersey City, NJ 07310; |
| (3) | the Adviser, Gladstone Management Corporation, 1521 Westbranch Drive, Suite 200, McLean, VA 22102; |
| (4) | the Custodian, The Bank of New York Mellon Corp., 500 Ross Street, Suite 935, Pittsburgh, PA 15262; and |
| (5) | the Collateral Custodian, The Bank of New York Mellon Corp., 500 Ross Street, Suite 935, Pittsburgh, PA 15262. |
Item 33. Management Services
Not applicable.
Item 34. Undertakings
| 1. | We hereby undertake to suspend the offering of shares until the prospectus is amended if, subsequent to the effective date of this registration statement, our net asset value declines more than ten percent from our net asset value as of the effective date of this registration statement. |
| 2. | We hereby undertake: |
| (a) | to file, during any period in which offers or sales are being made, a post-effective amendment to this registration statement: |
| (i) | to include any prospectus required by Section 10(a)(3) of the Securities Act of 1933, as amended, or the Securities Act; |
| (ii) | to reflect in the prospectus any facts or events arising after the effective date of this registration statement (or the most recent post-effective amendment thereof) which, individually or in the aggregate, represent a fundamental change in the information set forth in the registration statement; and |
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| (iii) | to include any material information with respect to the plan of distribution not previously disclosed in the registration statement or any material change to such information in the registration statement; |
| (b) | that, for the purpose of determining any liability under the Securities Act, each such post-effective amendment shall be deemed to be a new registration statement relating to the securities offered therein, and the offering of those securities at that time shall be deemed to be the initial bona fide offering thereof; |
| (c) | to remove from registration by means of a post-effective amendment any of the securities being registered which remain unsold at the termination of the offering; and |
| (d) | that, for the purpose of determining liability under the Securities Act to any purchaser, if the Registrant is subject to Rule 430C: Each prospectus filed pursuant to Rule 497(b), (c), (d) or (e) under the Securities Act as part of a registration statement relating to an offering, other than prospectuses filed in reliance on Rule 430A under the Securities Act, shall be deemed to be part of and included in the registration statement as of the date it is first used after effectiveness. Provided, however, that no statement made in a registration statement or prospectus that is part of the registration statement or made in a document incorporated or deemed incorporated by reference into the registration statement or prospectus that is part of the registration statement will, as to a purchaser with a time of contract of sale prior to such first use, supersede or modify any statement that was made in the registration statement or prospectus that was part of the registration statement or made in any such document immediately prior to such date of first use; |
| (e) | that for the purpose of determining liability of the Registrant under the Securities Act to any purchaser in the initial distribution of securities: The undersigned Registrant undertakes that in a primary offering of securities of the undersigned Registrant pursuant to this registration statement, regardless of the underwriting method used to sell the securities to the purchaser, if the securities are offered or sold to such purchaser by means of any of the following communications, the undersigned Registrant will be a seller to the purchaser and will be considered to offer or sell such securities to the purchaser: |
| (i) | any preliminary prospectus or prospectus of the undersigned Registrant relating to the offering required to be filed pursuant to Rule 497 under the Securities Act; |
| (ii) | the portion of any advertisement pursuant to Rule 482 under the Securities Act relating to the offering containing material information about the undersigned Registrant or its securities provided by or on behalf of the undersigned Registrant; and |
| (iii) | any other communication that is an offer in the offering made by the undersigned Registrant to the purchaser; |
| (f) | to file a post-effective amendment to the registration statement, and to suspend any offers or sales pursuant the registration statement until such post-effective amendment has been declared effective under the Securities Act, in the event the shares of the Registrant are trading below its net asset value and either (i) the Registrant receives, or has been advised by its independent registered accounting firm that it will receive, an audit report reflecting substantial doubt regarding the Registrant’s ability to continue as a going concern or (ii) the Registrant has concluded that a material adverse change has occurred in its financial position or results of operations that has caused the financial statements and other disclosures on the basis of which the offering would be made to be materially misleading; |
| (g) | to file a post-effective amendment to the registration statement in respect of any one or more offerings of the Registrant’s shares (including warrants and/or rights to purchase the shares) below net asset value that will result in greater than 15% dilution, in the aggregate, to existing net asset value per share; |
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| (h) | to file a post-effective amendment to the registration statement in connection with any rights offering and |
| (i) | to file a post-effective amendment to eh registration statement in connection with any combined offering of securities. |
3. We hereby undertake that:
| (a) | for the purpose of determining any liability under the Securities Act, the information omitted from the form of prospectus filed as part of this registration statement in reliance upon Rule 430A and contained in a form of prospectus filed by us under Rule 497(h) under the Securities Act shall be deemed to be part of this registration statement as of the time it was declared effective; and |
| (b) | for the purpose of determining any liability under the Securities Act, each post-effective amendment that contains a form of prospectus shall be deemed to be a new registration statement relating to the securities offered therein, and the offering of the securities at that time shall be deemed to be the initial bona fide offering thereof. |
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SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, as amended, and the Investment Company Act of 1940, as amended, the Registrant has duly caused this Post-Effective Amendment No. 6 to the Registration Statement to be signed on its behalf by the undersigned, thereunto duly authorized, in the City of McLean and Commonwealth of Virginia, on the 6th day of March 2012.
| GLADSTONE CAPITAL CORPORATION | ||
| By: | /s/ DAVID GLADSTONE | |
| David Gladstone | ||
| Chairman of the Board and Chief Executive Officer | ||
Pursuant to the requirements of the Securities Act of 1933, as amended, this Post-Effective Amendment No. 6 to the Registration Statement has been signed below by the following persons in the capacities indicated on March 6, 2012:
| By: | /s/ DAVID GLADSTONE | |
| David Gladstone | ||
| Chief Executive Officer and Chairman of the Board of Directors (principal executive officer) | ||
| By: | /s/ DAVID WATSON | |
| David Watson | ||
| Chief Financial Officer and Treasurer (principal financial and accounting officer) | ||
| By: | * | |
| Terry L. Brubaker | ||
| Vice Chairman, Chief Operating Officer, Secretary and Director | ||
| By: | * | |
| George Stelljes III | ||
| President, Chief Investment Officer and Director | ||
| By: | * | |
| David A. R. Dullum | ||
| Director | ||
| By: | * | |
| Anthony W. Parker | ||
| Director | ||
| By: | * | |
| Michela A. English | ||
| Director | ||
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| By: | * | |
| Paul W. Adelgren | ||
| Director | ||
| By: | * | |
| John H. Outland | ||
| Director | ||
| By: | * | |
| Jack Reilly | ||
| Director | ||
| *By: | /s/ DAVID GLADSTONE | |
| David Gladstone | ||
| (attorney-in-fact) | ||
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Exhibits
| Exhibit Number |
Description | |
| 2.a.1 | Articles of Amendment and Restatement of the Articles of Incorporation, incorporated by reference to Exhibit a.2 to Pre-Effective Amendment No. 1 to the Registration Statement on Form N-2 (File No. 333-63700), filed July 27, 2001. | |
| 2.a.2* | Articles Supplementary Establishing and Fixing the Rights and Preferences of the Term Preferred Shares, including Appendix A thereto relating to the Term Preferred Shares, 7.125% Series 2016. | |
| 2.b.1 | By-laws, incorporated by reference to Exhibit b to Pre-Effective Amendment No. 1 to the Registration Statement on Form N-2 (File No. 333-63700), filed July 27, 2001. | |
| 2.b.2 | Amendment to Bylaws, incorporated by reference to Exhibit 3.3 to the Registrant’s Quarterly Report on Form 10-Q for the quarter ended December 31, 2003 (File No. 814-00237), filed February 17, 2004. | |
| 2.b.3 | Second Amendment to Bylaws, incorporated by reference to Exhibit 99.1 to the Registrant’s Current Report on Form 8-K (File No. 814-00237), filed July 10, 2007. | |
| 2.b.4 | Third Amendment to Bylaws, incorporated by reference to Exhibit 99.1 to the Registrant’s Current Report on Form 8-K (File No. 814-00237), filed June 10, 2011. | |
| 2.c | Not applicable. | |
| 2.d.1 | Form of Direct Registration Transaction Advice for the Registrant’s common stock, par value $0.001 per share, incorporated by reference to Exhibit d to Pre-Effective Amendment No. 1 to the Registration Statement on Form N-2 (File No. 333-63700), filed July 27, 2001. | |
| 2.d.2 | Specimen Stock Certificate, incorporated by reference to Exhibit d.2 to Pre-Effective Amendment No. 3 to the Registration Statement on Form N-2 (File No. 333-63700), filed August 23, 2001. | |
| 2.d.3* | Form of Senior Indenture. | |
| 2.d.4* | Form of Subordinated Indenture. | |
| 2.d.5* | Specimen 7.125% Series 2016 Term Preferred stock certificate. | |
| 2.e | Dividend Reinvestment Plan, incorporated by reference to Exhibit 2.e to Pre-Effective Amendment No. 1 to the Registration Statement on Form N-2 (File No. 333-63700), filed July 27, 2001. | |
| 2.f | Not applicable. | |
| 2.g.1 | Amended and Restated Investment Advisory and Management Agreement between Gladstone Capital Corporation and Gladstone Management Corporation, dated as of October 1, 2006 incorporated by reference to Exhibit 99.1 to the Registrant’s Current Report on Form 8-K (File No. 814-00237), filed October 5, 2006 (renewed on July 7, 2010). | |
| 2.h.1* | Equity Distribution Agreement, dated as of May 17, 2010, by and among Gladstone Capital Corporation, Gladstone Management Corporation and BB&T Capital Markets, a division of Scott & Stringfellow, LLC. | |
| 2.i | Not applicable. | |
| 2.j | Custodian Agreement between Gladstone Capital Corporation and The Bank of New York, dated as of May 5, 2006, incorporated by reference to Exhibit 10.3 to the Registrant’s Quarterly Report on Form 10-Q for the quarter ended June 30, 2006 (File No. 814-00237), filed August 1, 2006. | |
| 2.k.1 | Promissory Note of David Gladstone in favor of the Company, dated August 23, 2001, incorporated by reference to Exhibit 10.4 to the Registrant’s Quarterly Report on Form 10-Q for the period ended June 30, 2001, filed October 4, 2001. | |
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| 2.k.2 | Redemption Agreement, dated as of September 7, 2010, between Gladstone Capital Corporation and David Gladstone, incorporated by reference to Exhibit 10.10 to the Registrant’s Annual Report on Form 10-K (File No. 814-00237), filed November 22, 2010. | |
| 2.k.3 | Third Amended and Restated Credit Agreement dated as of May 15, 2009 by and among Gladstone Business Loan, LLC as Borrower, Gladstone Management Corporation as Servicer, the Committed Lenders named therein, the CP Lenders named therein, the Managing Agents named therein, and Key Equipment Finance Inc. as Administrative Agent, incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K (File No. 814-00237), filed May 19, 2009. | |
| 2.k.4 | Administration Agreement between Gladstone Capital Corporation and Gladstone Administration, LLC, dated as of October 1, 2006 incorporated by reference to Exhibit 99.1 to the Registrant’s Current Report on Form 8-K (File No. 814-00237), filed October 5, 2006 (renewed on July 7, 2010). | |
| 2.k.5 | Fourth Amended and Restated Credit Agreement dated as of March 15, 2010 by and among Gladstone Business Loan, LLC as Borrower, Gladstone Management Corporation as Servicer, the Lenders named therein, the Managing Agents named therein, and Key Equipment Finance Inc. as Administrative Agent, incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K (File No. 814-00237), filed March 16, 2010. | |
| 2.k.6 | Amendment No. 1 to Fourth Amended and Restated Credit Agreement dated as of November 22, 2010 by and among Gladstone Business Loan, LLC as Borrower, Gladstone Management Corporation as Servicer, the Committed Lenders named therein, the Managing Agents named therein, and Key Equipment Finance Inc. as Administrative Agent, incorporated by reference to Exhibit 10.8 to the Registrant’s Annual Report on Form 10-K (File No. 814-00237), filed November 22, 2010. | |
| 2.l* | Opinion of Cooley Godward Kronish LLP. | |
| 2.m | Not applicable. | |
| 2.n.1 | Consent of Independent Registered Public Accounting Firm. | |
| 2.n.2* | Consent of Cooley Godward Kronish LLP (included in Exhibit 2.1). | |
| 2.n.3 | Report of Independent Registered Public Accounting Firm on Financial Statement Schedule. | |
| 2.o | Not applicable. | |
| 2.p | Subscription Agreement dated May 30, 2001, incorporated by reference to incorporated by reference to Exhibit p to the Registration Statement on Form N-2 (File No. 333-63700), filed June 22, 2001. | |
| 2.q | Not applicable. | |
| 2.r | Code of Ethics and Business Conduct, incorporated by reference to Exhibit 14.1 to the Registrant’s Current Report on Form 8-K (File No. 814-00237), filed October 12, 2005. | |
| 2.s.1* | Power of Attorney. | |
| 2.s.2* | Power of Attorney. | |
| * | Previously filed. |
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