XNAS:GAIN Gladstone Investment Corporation Quarterly Report 10-Q Filing - 6/30/2012

Effective Date 6/30/2012

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Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

 

FORM 10-Q

 

 

 

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

FOR THE QUARTER ENDED JUNE 30, 2012

 

¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

COMMISSION FILE NUMBER: 000-51233

 

 

GLADSTONE INVESTMENT CORPORATION

(Exact name of registrant as specified in its charter)

 

 

 

DELAWARE   83-0423116

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification No.)

1521 WESTBRANCH DRIVE, SUITE 200

MCLEAN, VIRGINIA 22102

(Address of principal executive office)

(703) 287-5800

(Registrant’s telephone number, including area code)

 

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  x    No  ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  ¨    No  ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12 b-2 of the Exchange Act.

 

Large accelerated filer   ¨    Accelerated filer   x
Non-accelerated filer   ¨      Smaller reporting company   ¨.

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  x

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date. The number of shares of the issuer’s Common Stock, $0.001 par value per share, outstanding as of July 27, 2012, was 22,080,133.

 

 

 


Table of Contents

GLADSTONE INVESTMENT CORPORATION

TABLE OF CONTENTS

 

PART I.

 

FINANCIAL INFORMATION:

  

Item 1.

 

Financial Statements (Unaudited)

  
 

Condensed Consolidated Statements of Assets and Liabilities as of June 30, 2012, and March 31, 2012

     3   
 

Condensed Consolidated Statements of Operations for the three months ended June 30, 2012 and 2011

     4   
 

Condensed Consolidated Statements of Changes in Net Assets for the three months ended June 30, 2012 and 2011

     5   
 

Condensed Consolidated Statements of Cash Flows for the three months ended June 30, 2012 and 2011

     6   
 

Condensed Consolidated Schedules of Investments as of June 30, 2012, and March 31, 2012

     7   
 

Notes to Condensed Consolidated Financial Statements

     11   

Item 2.

 

Management’s Discussion and Analysis of Financial Condition and Results of Operations

     27   
 

Overview

     27   
 

Results of Operations

     31   
 

Liquidity and Capital Resources

     36   

Item 3.

 

Quantitative and Qualitative Disclosures About Market Risk

     44   

Item 4.

 

Controls and Procedures

     45   

PART II.

 

OTHER INFORMATION:

  

Item 1.

 

Legal Proceedings

     45   

Item 1A.

 

Risk Factors

     45   

Item 2.

 

Unregistered Sales of Equity Securities and Use of Proceeds

     45   

Item 3.

 

Defaults Upon Senior Securities

     45   

Item 4.

 

Removed and Reserved

     45   

Item 5.

 

Other Information

     45   

Item 6.

 

Exhibits

     45   

SIGNATURES

     46   

 

2


Table of Contents

GLADSTONE INVESTMENT CORPORATION

CONDENSED CONSOLIDATED STATEMENTS OF ASSETS AND LIABILITIES

(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)

(UNAUDITED)

 

     June 30,
2012
    March 31,
2012
 

ASSETS

    

Investments at fair value

    

Control investments (Cost of $187,278 and $186,743, respectively)

   $ 160,434      $ 157,544   

Affiliate investments (Cost of $79,342 and $70,015, respectively)

     60,445        58,831   

Non-Control/Non-Affiliate investments (Cost of $9,610 and $9,637, respectively)

     8,891        9,277   
  

 

 

   

 

 

 

Total investments at fair value (Cost of $276,230 and $266,395, respectively)

     229,770        225,652   

Cash and cash equivalents

     113,431        91,546   

Restricted cash

     1,312        1,928   

Interest receivable

     981        1,250   

Due from custodian

     1,563        1,527   

Deferred financing costs

     2,592        2,792   

Other assets

     708        602   
  

 

 

   

 

 

 

TOTAL ASSETS

   $ 350,357      $ 325,297   
  

 

 

   

 

 

 

LIABILITIES

    

Borrowings at fair value:

    

Short-term loan (Cost of $76,010 and $76,005, respectively)

   $ 76,010      $ 76,005   

Line of credit (Cost of $31,000 and $0, respectively)

     31,492        —     
  

 

 

   

 

 

 

Total borrowings (Cost of $107,010 and $76,005, respectively)

     107,502        76,005   

Mandatorily redeemable preferred stock, $0.001 par value per share, $25 liquidation preference per share; 1,610,000 shares authorized, 1,600,000 shares issued and outstanding at June 30 and March 31, 2012

     40,000        40,000   

Accounts payable and accrued expenses

     628        506   

Fees due to Adviser(A)

     353        496   

Fee due to Administrator(A)

     183        218   

Other liabilities

     804        856   
  

 

 

   

 

 

 

TOTAL LIABILITIES

     149,470        118,081   
  

 

 

   

 

 

 

Commitments and contingencies(B)

    

NET ASSETS

   $ 200,887      $ 207,216   
  

 

 

   

 

 

 

ANALYSIS OF NET ASSETS

    

Common stock, $0.001 par value per share, 100,000,000 shares authorized, 22,080,133 shares issued and outstanding at June 30 and March 31, 2012, respectively

   $ 22      $ 22   

Capital in excess of par value

     257,131        257,131   

Cumulative net unrealized depreciation of investments

     (46,460     (40,743

Cumulative net unrealized depreciation of other

     (519     (68

Net investment income in excess of distributions

     321        321   

Accumulated net realized loss

     (9,608     (9,447
  

 

 

   

 

 

 

TOTAL NET ASSETS

   $ 200,887      $ 207,216   
  

 

 

   

 

 

 

NET ASSET VALUE PER SHARE AT END OF PERIOD

   $ 9.10      $ 9.38   
  

 

 

   

 

 

 

 

(A) 

Refer to Note 4—Related Party Transactions for additional information.

(B) 

Refer to Note 11—Commitments and Contingencies for additional information.

THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.

 

3


Table of Contents

GLADSTONE INVESTMENT CORPORATION

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(DOLLAR AMOUNTS IN THOUSANDS EXCEPT PER SHARE AMOUNTS)

(UNAUDITED)

 

     Three Months Ended June 30,  
     2012     2011  

INVESTMENT INCOME

    

Interest income:

    

Control investments

   $ 3,430      $ 2,634   

Affiliate investments

     1,771        1,368   

Non-Control/Non-Affiliate investments

     308        405   

Cash and cash equivalents

     2        4   
  

 

 

   

 

 

 

Total interest income

     5,511        4,411   

Other income:

    

Control investments

     394        835   

Non-Control/Non-Affiliate investments

     —          16   
  

 

 

   

 

 

 

Total other income

     394        851   
  

 

 

   

 

 

 

Total investment income

     5,905        5,262   
  

 

 

   

 

 

 

EXPENSES

    

Base management fee(A)

     1,191        1,008   

Incentive fee(A)

     —          19   

Administration fee(A)

     183        151   

Interest expense on borrowings

     92        132   

Dividends on mandatorily redeemable preferred stock

     713        —     

Amortization of deferred financing costs

     200        108   

Professional fees

     194        209   

Other general and administrative expenses

     278        350   
  

 

 

   

 

 

 

Expenses before credits from Adviser

     2,851        1,977   

Credits to fees(A)

     (184     (215
  

 

 

   

 

 

 

Total expenses net of credits to fees

     2,667        1,762   
  

 

 

   

 

 

 

NET INVESTMENT INCOME

   $ 3,238      $ 3,500   
  

 

 

   

 

 

 

REALIZED AND UNREALIZED (LOSS) GAIN

    

Net realized (loss) gain:

    

Control investments

     (46     5,734   

Non-Control/Non-Affiliate investments

     —          5   

Other

     (41     (39
  

 

 

   

 

 

 

Total net realized (loss) gain

     (87     5,700   

Net unrealized appreciation (depreciation):

    

Control investments

     2,354        (7,951

Affiliate investments

     (7,712     2,079   

Non-Control/Non-Affiliate investments

     (359     820   

Other

     (451     39   
  

 

 

   

 

 

 

Total net unrealized depreciation

     (6,168     (5,013
  

 

 

   

 

 

 

Net realized and unrealized (loss) gain

     (6,255     687   
  

 

 

   

 

 

 

NET (DECREASE) INCREASE IN NET ASSETS RESULTING FROM OPERATIONS

   $ (3,017   $ 4,187   
  

 

 

   

 

 

 

NET (DECREASE) INCREASE IN NET ASSETS RESULTING FROM OPERATIONS PER COMMON SHARE:

    

Basic and Diluted

   $ (0.13   $ 0.19   
  

 

 

   

 

 

 

WEIGHTED AVERAGE SHARES OF COMMON STOCK OUTSTANDING:

    

Basic and diluted

     22,080,133        22,080,133   

 

(A) 

Refer to Note 4—Related Party Transactions for additional information.

THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.

 

4


Table of Contents

GLADSTONE INVESTMENT CORPORATION

CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN NET ASSETS

(IN THOUSANDS)

(UNAUDITED)

 

     Three Months Ended June 30,  
     2012     2011  

Operations:

    

Net investment income

   $ 3,238      $ 3,500   

Net realized (loss) gain on investments

     (46     5,739   

Net realized loss on other

     (41     (39

Net unrealized depreciation of investments

     (5,717     (5,052

Net unrealized (depreciation) appreciation of other

     (451     39   
  

 

 

   

 

 

 

Net (decrease) increase in net assets from operations

     (3,017     4,187   

Distributions to common stockholders:

     (3,312     (2,981
  

 

 

   

 

 

 

Total (decrease) increase in net assets

     (6,329     1,206   

Net assets at beginning of period

     207,216        198,829   
  

 

 

   

 

 

 

Net assets at end of period

   $ 200,887      $ 200,035   
  

 

 

   

 

 

 

THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.

 

5


Table of Contents

GLADSTONE INVESTMENT CORPORATION

CONSOLIDATED STATEMENTS OF CASH FLOWS

(IN THOUSANDS)

(UNAUDITED)

 

     Three Months Ended June 30,  
     2012     2011  

CASH FLOWS FROM OPERATING ACTIVITIES

    

Net (decrease) increase in net assets resulting from operations

   $ (3,017   $ 4,187   

Adjustments to reconcile net (decrease) increase in net assets resulting from operations to net cash used in operating activities:

    

Purchase of investments

     (12,765     (22,459

Principal repayments of investments

     2,930        3,067   

(Disbursements) proceeds from the sale of investments

     (46     8,069   

Net realized loss (gain) on investments

     46        (5,739

Net realized loss on other

     41        39   

Net unrealized depreciation of investments

     5,717        5,052   

Net unrealized depreciation (appreciation) of other

     451        (39

Amortization of deferred financing costs

     200        108   

Decrease in restricted cash

     616        69   

Decrease (increase) in interest receivable

     269        (45

Increase in due from custodian

     (36     (767

Increase in other assets

     (106     (25

Increase in accounts payable and accrued expenses

     229        183   

Decrease in fees due to Adviser(A)

     (143     (191

Decrease in administration fee payable to Administrator(A)

     (35     (20

Decrease in other liabilities

     (52     (155
  

 

 

   

 

 

 

Net cash used in operating activities

     (5,701     (8,666

CASH FLOWS FROM FINANCING ACTIVITIES

    

Proceeds from short-term loans

     76,010        40,000   

Repayments on short-term loans

     (76,005     (40,000

Proceeds from Credit Facility

     31,000        —     

Deferred financing costs

     (107     (75

Distributions paid to common stockholders

     (3,312     (2,981
  

 

 

   

 

 

 

Net cash provided by (used in) financing activities

     27,586        (3,056
  

 

 

   

 

 

 

NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS

     21,885        (11,722

CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD

     91,546        80,580   
  

 

 

   

 

 

 

CASH AND CASH EQUIVALENTS, END OF PERIOD

   $ 113,431      $ 68,858   
  

 

 

   

 

 

 

 

(A) 

Refer to Note 4—Related Party Transactions for additional information.

THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.

 

6


Table of Contents

GLADSTONE INVESTMENT CORPORATION

CONDENSED CONSOLIDATED SCHEDULE OF INVESTMENTS

JUNE 30, 2012

(DOLLAR AMOUNTS IN THOUSANDS)

(UNAUDITED)

 

Company(A)

 

Industry

 

Investment(B)

  Principal     Cost     Fair Value  

CONTROL INVESTMENTS:

         

Acme Cryogenics, Inc.

 

Manufacturing — manifolds and pipes for industrial gasses

 

Senior Subordinated Term Debt (11.5%, Due 3/2015)

  $ 14,500      $ 14,500      $ 14,500   
   

Preferred Stock (898,814 shares)(C)(F)

      6,984        11,235   
   

Common Stock (418,072 shares)(C)(F)

      1,045        1,257   
   

Common Stock Warrants (452,683 shares)(C)(F)

      25        389   
       

 

 

   

 

 

 
          22,554        27,381   

ASH Holdings Corp.

 

Retail and Service — school buses and parts

 

Revolving Credit Facility, $170 available (3.0%, Due 3/2013)(G)

    6,830        6,773        —     
   

Senior Subordinated Term Debt (2.0%, Due 3/2013)(G)

    6,250        6,050        —     
   

Preferred Stock (4,644 shares)(C)(F)

      2,500        —     
   

Common Stock (1 share)(C)(F)

      —          —     
   

Common Stock Warrants (73,599 shares)(C)(F)

      4        —     
   

Guarantee ($500)

     
       

 

 

   

 

 

 
          15,327        —     

Country Club Enterprises, LLC

 

Service — golf cart distribution

 

Senior Subordinated Term Debt (14.0%, Due 11/2014)(G)

    4,000        4,000        4,000   
   

Preferred Stock (7,304,792 shares)(C)(F)

      7,725        634   
   

Guarantee ($2,000)

     
   

Guarantee ($1,934)

     
       

 

 

   

 

 

 
          11,725        4,634   

Galaxy Tool Holding Corp.

 

Manufacturing — aerospace and plastics

 

Senior Subordinated Term Debt (13.5%, Due 8/2013)

    3,220        3,220        3,220   
   

Preferred Stock (4,111,907 shares)(C)(F)

      19,658        328   
   

Common Stock (48,093 shares)(C)(F)

      48        —     
       

 

 

   

 

 

 
          22,926        3,548   

Mathey Investments, Inc.

 

Manufacturing — pipe-cutting and pipe-fitting equipment

 

Senior Term Debt (10.0%, Due 3/2013)

    2,375        2,375        2,375   
   

Senior Term Debt (12.0%, Due 3/2014)

    3,727        3,727        3,727   
   

Senior Term Debt (2.5%, Due 3/2014)(E)

    3,500        3,500        3,500   
   

Common Stock (29,102 shares)(C)(F)

      777        5,210   
       

 

 

   

 

 

 
          10,379        14,812   

Mitchell Rubber Products, Inc.

 

Manufacturing — rubber compounds

 

Subordinated Term Debt (13.0%, Due 10/2016)(D)

    13,560        13,560        13,424   
   

Preferred Stock (27,900 shares)(C)(F)

      2,790        2,999   
   

Common Stock (27,900 shares)(C)(F)

      28        3,323   
       

 

 

   

 

 

 
          16,378        19,746   

Precision Southeast, Inc.

 

Manufacturing — injection molding and plastics

 

Revolving Credit Facility, $251 available (7.5%, Due 9/2012)

    749        749        749   
   

Senior Term Debt (14.0%, Due 12/2015)

    7,775        7,775        7,775   
   

Preferred Stock (19,091 shares)(C)(F)

      1,909        2,145   
   

Common Stock (90,909 shares)(C)(F)

      91        580   
       

 

 

   

 

 

 
          10,524        11,249   

SBS, Industries, LLC

 

Manufacturing — specialty fasteners and threaded screw products

 

Senior Term Debt (14.0%, Due 8/2016)

    11,355        11,355        11,355   
   

Preferred Stock (19,935 shares)(C)(F)

      1,994        2,127   
   

Common Stock (221,500 shares)(C)(F)

      221        4,321   
       

 

 

   

 

 

 
          13,570        17,803   

SOG Specialty K&T, LLC

 

Manufacturing — specialty knives and tools

 

Senior Term Debt (13.3%, Due 8/2016)

    6,200        6,200        6,200   
   

Senior Term Debt (14.8%, Due 8/2016)

    12,199        12,199        12,199   
   

Preferred Stock (9,749 shares)(C)(F)

      9,749        12,155   
       

 

 

   

 

 

 
          28,148        30,554   

Tread Corp.

 

Manufacturing — storage and transport equipment

 

Senior Subordinated Term Debt (12.5%, Due 5/2013)

    7,750        7,750        6,847   
   

Senior Subordinated Term Debt (12.5%, Due 7/2012)

    2,160        2,160        1,908   
   

Preferred Stock (832,765 shares)(C)(F)

      833        —     
   

Common Stock (129,067 shares)(C)(F)

      1        —     
   

Common Stock Warrants (1,247,727 shares)(C)(F)

      3        —     
       

 

 

   

 

 

 
          10,747        8,755   

Venyu Solutions, Inc.

 

Service — online servicing suite

 

Senior Subordinated Term Debt (11.3%, Due 10/2015)

    7,000        7,000        7,000   
   

Senior Subordinated Term Debt (14.0%, Due 10/2015)

    12,000        12,000        12,000   
   

Preferred Stock (5,400 shares)(C)(F)

      6,000        2,952   
       

 

 

   

 

 

 
          25,000        21,952   
       

 

 

   

 

 

 

Total Control Investments (represents 69.8% of total investments at fair value)

    $ 187,278      $ 160,434   
       

 

 

   

 

 

 

 

7


Table of Contents

GLADSTONE INVESTMENT CORPORATION

CONDENSED CONSOLIDATED SCHEDULE OF INVESTMENTS (Continued)

JUNE 30, 2012

(DOLLAR AMOUNTS IN THOUSANDS)

(UNAUDITED)

 

Company(A)

 

Industry

 

Investment(B)

  Principal     Cost     Fair Value  

AFFILIATE INVESTMENTS:

         

Cavert II Holding Corp.

 

Manufacturing — bailing wire

 

Senior Term Debt (10.0%, Due 4/2016)(D)(E)(I)

  $ 500      $ 500      $ 500   
   

Senior Subordinated Term Debt (11.8%, Due 4/2016)(D)

    5,700        5,700        5,764   
   

Subordinated Term Debt (13.0%, Due 4/2016)(D)

    4,671        4,671        4,735   
   

Preferred Stock (18,446 shares)(C)(F)

      1,844        2,647   
       

 

 

   

 

 

 
          12,715        13,646   

Channel Technologies Group, LLC

 

Manufacturing — acoustic products

 

Revolving Credit Facility, $400 available (7.0%, Due 12/2012)(D)

    850        850        839   
   

Senior Term Debt (8.3%, Due 12/2014)(D)

    5,853        5,853        5,780   
   

Senior Term Debt (12.3%, Due 12/2016)(D)

    10,750        10,750        10,616   
   

Preferred Stock (1,599 shares)(C)(F)

      1,599        1,321   
   

Common Stock (1,598,616 shares)(C)(F)

      —          —     
       

 

 

   

 

 

 
          19,052        18,556   

Danco Acquisition Corp.

 

Manufacturing — machining and sheet metal work

 

Revolving Credit Facility, $0 available (10.0%, Due 10/2012)(D)

    2,250        2,250        1,125   
   

Senior Term Debt (10.0%, Due 10/2012)(D)

    2,575        2,575        1,287   
   

Senior Term Debt (12.5%, Due 4/2013)(D)(E)

    8,891        8,891        4,446   
   

Preferred Stock (25 shares)(C)(F)

      2,500        —     
   

Common Stock Warrants (420 shares)(C)(F)

      3        —     
       

 

 

   

 

 

 
          16,219        6,858   

Noble Logistics, Inc.

 

Service — aftermarket auto parts delivery

 

Revolving Credit Facility, $0 available (10.5%, Due 1/2013)(D)

    500        500        290   
   

Senior Term Debt (11.0%, Due 1/2013)(D)

    7,227        7,227        4,192   
   

Senior Term Debt (10.5%, Due 1/2013)(D)

    3,650        3,650        2,117   
   

Senior Term Debt (10.5%, Due 1/2013)(D)(E)

    3,650        3,650        2,117   
   

Preferred Stock (1,075,000 shares)(C)(F)

      1,750        —     
   

Common Stock (1,682,444 shares)(C)(F)

      1,682        —     
       

 

 

   

 

 

 
          18,459        8,716   

Packerland Whey Products, Inc.

 

Manufacturing — protein supplements

 

Subordinated Term Debt (13.8%, Due 6/2018)(H)

    7,000        7,000        7,000   
   

Preferred Stock (248 shares)(C)(F)(H)

      2,479        2,479   
   

Common Stock (247 shares)(C)(F)(H)

      21        21   
       

 

 

   

 

 

 
          9,500        9,500   

Quench Holdings Corp.

 

Service — sales, installation and service of water coolers

 

Preferred Stock (388 shares)(C)(F)

      2,950        3,169   
   

Common Stock (35,242 shares)(C)(F)

      447        —     
       

 

 

   

 

 

 
          3,397        3,169   
       

 

 

   

 

 

 

Total Affiliate Investments (represents 26.3% of total investments at fair value)

  

  $ 79,342      $ 60,445   
       

 

 

   

 

 

 

NON-CONTROL/NON-AFFILIATE INVESTMENTS:

     

B-Dry, LLC

 

Service — basement waterproofer

 

Senior Term Debt (13.0%, Due 5/2014)(D)

  $ 6,460      $ 6,460      $ 6,169   
   

Senior Term Debt (13.0%, Due 5/2014)(D)

    2,850        2,850        2,722   
   

Common Stock Warrants (55 shares)(C)(F)

      300        —     
       

 

 

   

 

 

 
          9,610        8,891   
       

 

 

   

 

 

 

Total Non-Control/Non-Affiliate Investments (represents 3.9% of total investments at fair value)

  

  $ 9,610      $ 8,891   
       

 

 

   

 

 

 

TOTAL INVESTMENTS

  

  $ 276,230      $ 229,770   
       

 

 

   

 

 

 

 

(A) 

Certain of the securities listed above are issued by affiliate(s) of the indicated portfolio company.

(B) 

Percentages represent the weighted average interest rates in effect at June 30, 2012, and due date represents the contractual maturity date.

(C) 

Security is non-income producing.

(D) 

Fair value based primarily on opinions of value submitted by Standard & Poor’s Securities Evaluations, Inc. at June 30, 2012.

(E) 

Last Out Tranche (“LOT”) of senior debt, meaning if the portfolio company is liquidated, the holder of the LOT is paid after the other senior debt and before the senior subordinated debt.

(F) 

Aggregates all shares of such class of stock owned without regard to specific series owned within such class, some series of which may or may not be voting shares or aggregates all warrants to purchase shares of such class of stock owned without regard to specific series of such class of stock such warrants allow us to purchase.

(G) 

Debt security is on non-accrual status.

(H) 

New proprietary portfolio investment valued at cost, as it was determined that the price paid during the three months ended June 30, 2012, best represents fair value as of June 30, 2012.

(I) 

Security was paid off, at par, subsequent to June 30, 2012, and was valued based on the payoff.

THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.

 

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GLADSTONE INVESTMENT CORPORATION

CONDENSED CONSOLIDATED SCHEDULES OF INVESTMENTS

MARCH 31, 2012

(DOLLAR AMOUNTS IN THOUSANDS)

(UNAUDITED)

 

Company(A)

 

Industry

 

Investment(B)

  Principal     Cost     Fair Value  

CONTROL INVESTMENTS:

         

Acme Cryogenics, Inc.

 

Manufacturing — manifolds and pipes for industrial gasses

 

Senior Subordinated Term Debt (11.5%, Due 3/2015)

  $ 14,500      $ 14,500      $ 14,500   
   

Preferred Stock (898,814 shares)(C)(F)

      6,984        10,994   
   

Common Stock (418,072 shares)(C)(F)

      1,045        2,132   
   

Common Stock Warrants (452,683 shares)(C)(F)

      25        675   
       

 

 

   

 

 

 
          22,554        28,301   

ASH Holdings Corp.

 

Retail and Service — school buses and parts

 

Revolving Credit Facility, $570 available (3.0%, Due 3/2013)(G)

    6,430        6,388        —     
   

Senior Subordinated Term Debt (2.0%, Due 3/2013)(G)

    6,250        6,060        —     
   

Preferred Stock (4,644 shares)(C)(F)

      2,500        —     
   

Common Stock (1 share)(C)(F)

      —          —     
   

Common Stock Warrants (73,599 shares)(C)(F)

      4        —     
   

Guarantee ($750)

     
       

 

 

   

 

 

 
          14,952        —     

Country Club Enterprises, LLC

 

Service — golf cart distribution

 

Senior Subordinated Term Debt (14.0%, Due 11/2014)(G)

    4,000        4,000        —     
   

Preferred Stock (7,304,792 shares)(C)(F)

      7,725        —     
   

Guarantee ($2,000)

     
   

Guarantee ($1,998)

     
       

 

 

   

 

 

 
          11,725        —     

Galaxy Tool Holding Corp.

 

Manufacturing — aerospace and plastics

 

Senior Subordinated Term Debt (13.5%, Due 8/2013)

    5,220        5,220        5,220   
   

Preferred Stock (4,111,907 shares)(C)(F)

      19,658        1,493   
   

Common Stock (48,093 shares)(C)(F)

      48        —     
       

 

 

   

 

 

 
          24,926        6,713   

Mathey Investments, Inc.

 

Manufacturing — pipe-cutting and pipe-fitting equipment

 

Senior Term Debt (10.0%, Due 3/2013)

    2,375        2,375        2,375   
   

Senior Term Debt (12.0%, Due 3/2014)

    3,727        3,727        3,727   
   

Senior Term Debt (2.5%, Due 3/2014)(E)

    3,500        3,500        3,500   
   

Common Stock (29,102 shares)(C)(F)

      777        4,164   
       

 

 

   

 

 

 
          10,379        13,766   

Mitchell Rubber Products, Inc.

 

Manufacturing — rubber compounds

 

Subordinated Term Debt (13.0%, Due 10/2016)(D)

    13,560        13,560        13,679   
   

Preferred Stock (27,900 shares)(C)(F)

      2,790        2,954   
   

Common Stock (27,900 shares)(C)(F)

      28        1,858   
       

 

 

   

 

 

 
          16,378        18,491   

Precision Southeast, Inc.

 

Manufacturing — injection molding and plastics

 

Revolving Credit Facility, $251 available (7.5%, Due 9/2012)

    749        749        749   
   

Senior Term Debt (14.0%, Due 12/2015)

    7,775        7,775        7,775   
   

Preferred Stock (19,091 shares)(C)(F)

      1,909        1,634   
   

Common Stock (90,909 shares)(C)(F)

      91        —     
       

 

 

   

 

 

 
          10,524        10,158   

SBS, Industries, LLC

 

Manufacturing — specialty fasteners and threaded screw products

 

Senior Term Debt (14.0%, Due 8/2016)

    11,355        11,355        11,355   
   

Preferred Stock (19,935 shares)(C)(F)

      1,994        2,087   
   

Common Stock (221,500 shares)(C)(F)

      221        3,563   
       

 

 

   

 

 

 
          13,570        17,005   

SOG Specialty K&T, LLC

 

Manufacturing — specialty knives and tools

 

Senior Term Debt (13.3%, Due 8/2016)

    6,200        6,200        6,200   
   

Senior Term Debt (14.8%, Due 8/2016)

    12,199        12,199        12,199   
   

Preferred Stock (9,749 shares)(C)(F)

      9,749        11,697   
       

 

 

   

 

 

 
          28,148        30,096   

Tread Corp.

 

Manufacturing — storage and transport equipment

 

Senior Subordinated Term Debt (12.5%, Due 5/2013)

    7,750        7,750        7,750   
   

Preferred Stock (832,765 shares)(C)(F)

      833        1,080   
   

Common Stock (129,067 shares)(C)(F)

      1        96   
   

Common Stock Warrants (1,247,727 shares)(C)(F)

      3        758   
       

 

 

   

 

 

 
          8,587        9,684   

Venyu Solutions, Inc.

 

Service — online servicing suite

 

Senior Subordinated Term Debt (11.3%, Due 10/2015)

    7,000        7,000        7,000   
   

Senior Subordinated Term Debt (14.0%, Due 10/2015)

    12,000        12,000        12,000   
   

Preferred Stock (5,400 shares)(C)(F)

      6,000        4,330   
       

 

 

   

 

 

 
          25,000        23,330   
       

 

 

   

 

 

 

Total Control Investments (represents 69.8% of total investments at fair value)

  

  $ 186,743      $ 157,544   
       

 

 

   

 

 

 

 

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GLADSTONE INVESTMENT CORPORATION

CONDENSED CONSOLIDATED SCHEDULES OF INVESTMENTS (Continued)

MARCH 31, 2012

(DOLLAR AMOUNTS IN THOUSANDS)

(UNAUDITED)

 

Company(A)

 

Industry

 

Investment(B)

  Principal     Cost     Fair Value  

AFFILIATE INVESTMENTS:

         

Cavert II Holding Corp.

 

Manufacturing — bailing wire

 

Senior Term Debt (10.0%, Due 4/2016)(D)(E)

  $ 1,050      $ 1,050      $ 1,067   
   

Senior Subordinated Term Debt (11.8%, Due 4/2016)(D)

    5,700        5,700        5,771   
   

Subordinated Term Debt (13.0%, Due 4/2016)(D)

    4,671        4,671        4,741   
   

Preferred Stock (18,446 shares)(C)(F)

      1,844        2,596   
       

 

 

   

 

 

 
          13,265        14,175   

Channel Technologies Group, LLC

 

Manufacturing — acoustic products

 

Revolving Credit Facility, $400 available (7.0%, Due 12/2012)(D)

    850        850        843   
   

Senior Term Debt (8.3%, Due 12/2014)(D)

    5,926        5,926        5,875   
   

Senior Term Debt (12.3%, Due 12/2016)(D)

    10,750        10,750        10,642   
   

Preferred Stock (1,599 shares)(C)(F)

      1,599        1,631   
   

Common Stock (1,598,616 shares)(C)(F)

      —          75   
       

 

 

   

 

 

 
          19,125        19,066   

Danco Acquisition Corp.

 

Manufacturing — machining and sheet metal work

 

Revolving Credit Facility, $450 available (10.0%, Due 10/2012)(D)

    1,800        1,800        1,350   
   

Senior Term Debt (10.0%, Due 10/2012)(D)

    2,575        2,575        1,931   
   

Senior Term Debt (12.5%, Due 4/2013)(D)(E)

    8,891        8,891        6,669   
   

Preferred Stock (25 shares)(C)(F)

      2,500        —     
   

Common Stock Warrants (420 shares)(C)(F)

      3        —     
       

 

 

   

 

 

 
          15,769        9,950   

Noble Logistics, Inc.

 

Service — aftermarket auto parts delivery

 

Revolving Credit Facility, $0 available (10.5%, Due 1/2013)(D)

    500        500        315   
   

Senior Term Debt (11.0%, Due 1/2013)(D)

    7,227        7,227        4,553   
   

Senior Term Debt (10.5%, Due 1/2013)(D)

    3,650        3,650        2,300   
   

Senior Term Debt (10.5%, Due 1/2013)(D)(E)

    3,650        3,650        2,299   
   

Preferred Stock (1,075,000 shares)(C)(F)

      1,750        3,550   
   

Common Stock (1,682,444 shares)(C)(F)

      1,682        —     
       

 

 

   

 

 

 
          18,459        13,017   

Quench Holdings Corp.

 

Service — sales, installation and service of water coolers

 

Preferred Stock (388 shares)(C)(F)

      2,950        2,623   
   

Common Stock (35,242 shares)(C)(F)

      447        —     
       

 

 

   

 

 

 
          3,397        2,623   
       

 

 

   

 

 

 

Total Affiliate Investments (represents 26.1% of total investments at fair value)

  

  $ 70,015      $ 58,831   
       

 

 

   

 

 

 

NON-CONTROL/NON-AFFILIATE INVESTMENTS:

     

B-Dry, LLC

 

Service — basement waterproofer

 

Senior Term Debt (12.3%, Due 5/2014)(D)

    6,477        6,477        6,356   
   

Senior Term Debt (12.3%, Due 5/2014)(D)

    2,860        2,860        2,806   
   

Common Stock Warrants (55 shares)(C)(F)

      300        115   
       

 

 

   

 

 

 
          9,637        9,277   
       

 

 

   

 

 

 

Total Non-Control/Non-Affiliate Investments (represents 4.1% of total investments at fair value)

  

  $ 9,637      $ 9,277   
       

 

 

   

 

 

 

TOTAL INVESTMENTS

  

  $ 266,395      $ 225,652   
       

 

 

   

 

 

 

 

(A) 

Certain of the securities listed above are issued by affiliate(s) of the indicated portfolio company.

(B) 

Percentages represent the weighted average interest rates in effect at March 31, 2012, and due date represents the contractual maturity date.

(C) 

Security is non-income producing.

(D) 

Fair value based primarily on opinions of value submitted by Standard & Poor’s Securities Evaluations, Inc. at March 31, 2012.

(E) 

LOT of senior debt, meaning if the portfolio company is liquidated, the holder of the LOT is paid after the other senior debt and before the senior subordinated debt.

(F) 

Aggregates all shares of such class of stock owned without regard to specific series owned within such class, some series of which may or may not be voting shares or aggregates all warrants to purchase shares of such class of stock owned without regard to specific series of such class of stock such warrants allow us to purchase.

(G) 

Debt security is on non-accrual status.

THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS.

 

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GLADSTONE INVESTMENT CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

JUNE 30, 2012

(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA AND AS OTHERWISE INDICATED)

 

NOTE 1. ORGANIZATION

Gladstone Investment Corporation (“Gladstone Investment”) was incorporated under the General Corporation Law of the State of Delaware on February 18, 2005 and completed an initial public offering on June 22, 2005. The terms “we,” “our” and “us” all refer to Gladstone Investment and its consolidated subsidiaries. We are 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, we have elected to be treated for tax purposes as a regulated investment company (“RIC”) under the Internal Revenue Code of 1986, as amended (the “Code”). We were established for the purpose of investing in debt and equity securities of established private businesses in the United States (“U.S.”). These investments primarily come in the form of subordinated loans, mezzanine debt, preferred stock, common stock and warrants to purchase common stock of small and medium-sized companies in connection with buyouts and other recapitalizations. We also invest in senior secured loans 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.

Gladstone Business Investment, LLC (“Business Investment”), a wholly-owned subsidiary of ours, was established on August 11, 2006 for the sole purpose of owning our portfolio of investments in connection with our line of credit. The financial statements of Business Investment are consolidated with those of Gladstone Investment.

We are externally managed by Gladstone Management Corporation (the “Adviser”), an affiliate of ours.

 

NOTE 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Unaudited Interim Financial Statements and Basis of Presentation

We prepare our interim financial statements in accordance with accounting principles generally accepted in the U.S. (“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 our accounts and those of our 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, we are not permitted to consolidate any portfolio company investments, including those in which we have a controlling interest. In our opinion, 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 June 30, 2012, are 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 our annual report on Form 10-K for the fiscal year ended March 31, 2012, as filed with the Securities and Exchange Commission (the “SEC”) on May 21, 2012.

Our 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 three month period ended June 30, 2012, with no effect to net (decrease) increase in net assets resulting from operations.

Investment Valuation Policy

We carry our 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 our board of directors (the “Board of Directors”). In determining the fair 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 to accept the recommended valuation of our investment portfolio. Such determination of fair values may involve subjective judgments and estimates.

 

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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 we obtain these specific, third-party appraisals, we 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.

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: 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. At June 30 and March 31, 2012, we did not have any investments in publicly-traded securities.

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 the asset class and evaluate variances in prices and other market insights to determine if any available quoted prices are reliable. In general, if we conclude that quotes based on active markets or trading activity may be relied upon, firm bid prices are requested; however, if firm bid prices are unavailable, we base the value of the security upon the price in the range of 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, the Adviser may take further steps to consider additional information to validate that price in accordance with the Policy, including, but not limited to, reviewing a range of indicative bids to the extent the Adviser has ready access to such qualified information.

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 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, 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 develop a modified discount rate approach that incorporates risk premiums including, among other things, increased probability of default, higher loss given default and 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. At June 30 and March 31, 2012, we had no syndicated investments.

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 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 utilizing 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 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 our 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. We manage our risk related to these investments at the aggregated issuer level and generally exit the debt and equity securities together. Applying the liquidity waterfall approach to all of the investments of an issuer, we first calculate the TEV of the issuer by incorporating some or all of the following factors:

 

   

the issuer’s ability to make payments;

 

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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 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 we have estimated the TEV of the issuer, we 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 we 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: 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 (as amended by the FASB’s 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 International Financial Reporting Standards (“IFRS”),” (“ASU 2011-04”)), we have defined our “unit of account” at the investment level (either debt or equity) and as such determine our fair value of these non-control investments assuming the sale of an individual security using the standalone 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 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, 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.

 

(D) Portfolio investments comprised of non-publicly traded, non-control equity securities of other funds: We generally 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. At June 30 and March 31, 2012, we had no non-control equity securities of other funds.

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 we 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—Investments for additional information regarding fair value measurements and our 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 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. 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 collectible. At June 30, 2012, loans to two portfolio companies, ASH Holdings Corp. (“ASH”) and Country Club Enterprises, LLC (“CCE”), were on non-accrual. These non-accrual loans had an aggregate cost value of $16.8 million, or 8.5% of the cost basis of debt investments in our portfolio, and an aggregate fair value of $4.0 million, or 2.3% of the fair value of all debt investments in our portfolio. At March 31, 2012, ASH and CCE were on non-accrual with an aggregate debt cost basis of $16.4 million, or 8.6% of the cost basis of debt investments in our portfolio, and an aggregate fair value of $0.

 

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We did not hold any loans in our portfolio that contained a PIK provision at June 30, 2012; however, during the three months ended June 30, 2011, we recorded PIK income of $6. PIK interest, computed at the contractual rate specified in the loan agreement, is added to the principal balance of the loan and recorded as interest income. To maintain our status as a RIC, this non-cash source of income must be included in our calculation of distributable income for purposes of complying with our distribution requirements, even though we have not yet collected the cash. The sole loan with a PIK provision was paid off, at par, during the quarter ended September 30, 2011.

Other Income Recognition

We generally record success fees upon receipt of cash. 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 recorded $0.4 million and $0.1 million of success fees during the three months ended June 30, 2012 and 2011, respectively, representing prepayments received from Mathey Investments, Inc. (“Mathey”).

We accrue dividend income on preferred equity securities to the extent that such amounts are expected to be collected and if we have the option to collect such amounts in cash, and it is recorded in Other income in our accompanying Condensed consolidated Statements of Operations. We did not record any dividend income during the three months ended June 30, 2012; however, during the three months ended June 30, 2011, we recorded and collected $0.7 million of cash dividends on accrued preferred shares in connection with the recapitalization of Cavert II Holding Corp. (“Cavert”).

 

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 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 assumptions that market participants would use when pricing the asset or liability and can include our own assumptions based upon the best available information.

We transfer 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 June 30, 2012 and 2011, there were no transfers in or out of Level 1, 2 and 3.

The following table presents the financial assets carried at fair value as of June 30 and March 31, 2012, by caption on our accompanying Condensed Consolidated Statements of Assets and Liabilities and by security type for each of the three applicable levels of hierarchy established by ASC 820 that we used to value our financial assets:

 

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    As of June 30, 2012     As of March 31, 2012  
    Level 1     Level 3     Total Recurring Fair
Value Measurement
Reported in 
Condensed
Consolidated Statements
of Assets and Liabilities
    Level 1     Level 3     Total Recurring Fair
Value Measurement
Reported in
Condensed
Consolidated Statements
of Assets and Liabilities
 

Control Investments

           

Senior term debt

  $ —        $ 47,881      $ 47,881      $ —        $ 47,880      $ 47,880   

Senior subordinated term debt

    —          62,899        62,899        —          60,149        60,149   

Preferred equity

    —          34,575        34,575        —          36,269        36,269   

Common equity/equivalents

    —          15,079        15,079        —          13,246        13,246   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total Control investments

    —          160,434        160,434        —          157,544        157,544   

Affiliate Investments

           

Senior term debt

    —          33,309        33,309        —          37,844        37,844   

Senior subordinated term debt

    —          17,499        17,499        —          10,512        10,512   

Preferred equity

    —          9,617        9,617        —          10,400        10,400   

Common equity/equivalents

    —          20        20        —          75        75   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total Affiliate investments

    —          60,445        60,445        —          58,831        58,831   

Non-Control/Non-Affiliate Investments

           

Senior term debt

    —          8,891        8,891        —          9,162        9,162   

Common equity/equivalents

    —          —          —          —          115        115   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total Non-Control/Non-Affiliate Investments

    —          8,891        8,891        —          9,277        9,277   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total Investments at fair value

  $ —        $ 229,770      $ 229,770      $ —        $ 225,652      $ 225,652   

Cash Equivalents

    85,000        —          85,000        85,000        —          85,000   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total Investments and Cash Equivalents

  $ 85,000      $ 229,770      $ 314,770      $ 85,000      $ 225,652      $ 310,652   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

In accordance with ASU 2011-04, the following table provides quantitative information about our Level 3 fair value measurements of our investments as of June 30, 2012. In addition to the techniques and inputs noted in the table below, according to our valuation policy, we may also use other valuation techniques and methodologies when determining our fair value measurements. The below table is not intended to be all-inclusive, but rather provides information on the significant Level 3 inputs as they relate to our fair value measurements. The weighted average calculations in the table below are based on the principal balances for all debt-related calculations and on the cost basis for all equity-related calculations for the particular input.

 

     Quantitative Information about Level 3 Fair Value Measurements  
     Fair Value as of
June 30, 2012
     Valuation
Techniques/

Methodologies
  Unobservable Input   Range    Weighted
Average
 

Portfolio investments in controlled companies

   $ 140,688       TEV   EBITDA  multiples(B)   5.2x – 8.5x      6.6x   

comprised of a bundle of investments

        EBITDA(B)   ($496) – $6,957    $ 3,525   

Portfolio investments in non-controlled companies

     85,913       TEV   EBITDA  multiples(B)   4.4x – 9.1x      6.6x   

comprised of a bundle of investments

        EBITDA(B)   ($150) – $6,693    $ 3,572   
      SPSE(A)   EBITDA(B)   ($150) – $6,693    $ 3,380   
        Risk Ratings(C)   2.1 – 5.7      4.7   

Other investments

     3,169             
  

 

 

           

Total Fair Value for Level 3 Investments

   $ 229,770             
  

 

 

           

 

(A) 

SPSE makes an independent assessment of the data we submit to them (which includes the financial and operational performance, as well as our internally assessed risk ratings of the portfolio companies – see footnote (C) below) and its own independent data to form an opinion as to what they consider to be the market values for our securities. With regard to its work, SPSE has stated that the data submitted to us is regarded as proprietary in nature.

(B) 

Earnings before interest expense, taxes, depreciation and amortization (“EBITDA”) is an unobservable input which is generally based on the most recently available trailing twelve month financial statements submitted to us from the portfolio companies. EBITDA multiples, generally indexed in accordance with our valuation policy, represent our estimation of where market participants might price these investments. For our bundled debt and equity investments, the EBITDA and EBITDA multiples impact the TEV fair value determination and the value of the issuer’s debt, equity, or equity-like securities are valued in accordance with our liquidity waterfall approach.

(C) 

As part of our valuation procedures, we risk rate all of our investments in debt securities. We use a proprietary risk rating system for all our proprietary debt securities. Our risk rating system uses a scale of 0 to 10, with 10 representing the lowest probability of default. The risk rating system covers both qualitative and quantitative aspects of the portfolio company business and the securities we hold.

 

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Significant unobservable inputs generally included in our internally-assessed TEV models used to value our proprietary debt and equity investments are the portfolio company’s EBITDA and EBITDA multiples. Holding all other factors constant, increases (decreases) in the EBITDA and/or the EBITDA multiples inputs would result in a higher (lower) fair value measurement. Per our valuation policy, we generally use an indexed EBITDA multiple. EBITDA and EBITDA multiple inputs do not have to directionally correlate since EBITDA is a company performance metric and EBITDA multiples can be influenced by market, industry, size and other factors.

Changes in Level 3 Fair Value Measurements of Investments

The following tables provide the changes in fair value, broken out by security type, during the three months ended June 30, 2012 and 2011 for all investments for which we determine fair value using unobservable (Level 3) factors. When a determination is made to classify a financial instrument within Level 3 of the valuation hierarchy, such 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, we categorize 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.

Fair Value Measurements Using Significant Unobservable Inputs (Level 3)

Period Ended June 30, 2012:

 

     Senior
Term Debt
    Senior
Subordinated
Term Debt
    Preferred
Equity
    Common
Equity/
Equivalents
    Total  

Three months ended June 30, 2012:

          

Fair value as of March 31, 2012

   $ 94,886      $ 70,661      $ 46,669      $ 13,436      $ 225,652   

Total (losses) gains:

          

Net realized losses(A)(D)

     —          —          —          (46     (46

Net unrealized (depreciation) appreciation(B)

     (4,990     2,587        (4,956     1,642        (5,717

New investments, repayments and settlements(C):

          

Issuances / Originations

     950        9,315        2,479        21        12,765   

Settlements / Repayments

     (765     (2,165     —          —          (2,930

Sales(D)

     —          —          —          46        46   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Fair value as of June 30, 2012

   $ 90,081      $ 80,398      $ 44,192      $ 15,099      $ 229,770   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Period Ended June 30, 2011:

 

     Senior
Term Debt
    Senior
Subordinated
Term Debt
    Preferred
Equity
    Common
Equity/
Equivalents
    Total  

Three months ended June 30, 2011:

          

Fair value as of March 31, 2011

   $ 58,627      $ 62,806      $ 25,398      $ 6,454      $ 153,285   

Total gains (losses):

          

Net realized gains(A)(D)

     —          5        —          5,734        5,739   

Net unrealized appreciation (depreciation)(B)

     1,357        (5,655     4,832        527        1,061   

Reversal of previously-recorded depreciation (appreciation) upon realization(B)

     95        (14     (686     (5,508     (6,113

New investments, repayments and settlements(C):

          

Issuances / Originations

     6        19,635        2,790        28        22,459   

Settlements / Repayments

     (2,153     (915     —          1        (3,067

Sales(D)

     —          —          (2,266     (5,803     (8,069
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Fair value as of June 30, 2011

   $ 57,932      $ 75,862      $ 30,068      $ 1,433      $ 165,295   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

(A) 

Included in Net realized (loss) gain on our accompanying Condensed Consolidated Statements of Operations for the three months ended June 30, 2012 and 2011.

(B) 

Included in Net unrealized appreciation (depreciation) on our accompanying Condensed Consolidated Statements of Operations for the three months ended June 30, 2012 and 2011.

(C) 

Includes increases in the cost basis of investments resulting from new portfolio investments, the amortization of discounts, PIK and other non-cash disbursements to portfolio companies; as well as decreases in the cost basis of investments resulting from principal repayments or sales, the amortization of premiums and acquisition costs, and other cost-basis adjustments.

(D) 

Included in Net realized gains (losses) and Sales are post-closing adjustments recorded in the current period related to exits from prior periods.

 

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Investment Activity

During the three months ended June 30, 2012, the following significant transaction occurred:

 

   

In May 2012, we invested $9.5 million in a new Affiliate investment, Packerland Whey Products, Inc. (“Packerland”), through a combination of debt and equity. Packerland, headquartered in Luxemburg, Wisconsin, is a processor of raw fluid whey, specializing in the production of protein supplements for dairy and beef cattle.

Refer to Note 13, “Subsequent Events,” for investment activity occurring subsequent to June 30, 2012.

Investment Concentrations

As of June 30, 2012, we had investments in 18 portfolio companies located in a total of 13 states in 13 different industries with an aggregate fair value of $229.8 million, of which SOG Specialty K&T, LLC (“SOG”), Acme Cryogenics, Inc. (“Acme”), and Venyu Solutions, Inc. (“Venyu”), collectively, comprised approximately $79.9 million, or 34.8%, of our total investment portfolio, at fair value. The following table outlines our investments by security type at June 30 and March 31, 2012:

 

     June 30, 2012     March 31, 2012  
     Cost     Fair Value     Cost     Fair Value  

Senior term debt

   $ 110,661         40.1   $ 90,081         39.2   $ 110,475         41.5   $ 94,886         42.0

Senior subordinated term debt

     87,610         31.7        80,398         35.0        80,461         30.2        70,661         31.3   

Preferred equity

     73,264         26.5        44,192         19.2        71,084         26.6        46,669         20.7   

Common equity/equivalents

     4,695         1.7        15,099         6.6        4,375         1.7        13,436         6.0   
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total investments

   $ 276,230         100.0   $ 229,770         100.0   $ 266,395         100.0   $ 225,652         100.0
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Investments at fair value consisted of the following industry classifications at June 30 and March 31, 2012:

 

     June 30, 2012     March 31, 2012  
     Fair Value      Percentage of
Total Investments
    Fair Value      Percentage of
Total Investments
 

Chemicals, Plastics, and Rubber

   $ 47,127         20.5   $ 46,793         20.7

Machinery (Nonagriculture, Nonconstruction, Nonelectronic)

     32,615         14.2        30,770         13.6   

Leisure, Amusement, Motion Pictures, Entertainment

     30,554         13.3        30,096         13.3   

Diversified/Conglomerate Manufacturing

     25,414         11.1        29,017         12.9   

Containers, Packaging, and Glass

     24,895         10.8        24,332         10.8   

Electronics

     21,952         9.6        23,330         10.3   

Beverage, Food and Tobacco

     9,500         4.1        —           —     

Buildings and Real Estate

     8,891         3.9        9,277         4.1   

Oil and Gas

     8,755         3.8        9,684         4.3   

Cargo Transport

     8,716         3.8        13,017         5.8   

Automobile

     4,634         2.0        —           —     

Aerospace and Defense

     3,548         1.5        6,713         3.0   

Home and Office Furnishings, Housewares, and Durable Consumer Products

     3,169         1.4        2,623         1.2   
  

 

 

    

 

 

   

 

 

    

 

 

 

Total Investments

   $ 229,770         100.0   $ 225,652         100.0
  

 

 

    

 

 

   

 

 

    

 

 

 

The investments, at fair value, were included in the following geographic regions of the U.S. as of June 30, 2012 and March 31, 2012:

 

     June 30, 2012     March 31, 2012  
     Fair Value      Percentage of
Total Investments
    Fair Value      Percentage of
Total Investments
 

South

   $ 105,823         46.0   $ 128,902         57.1

West

     75,715         33.0        59,112         26.2   

Northeast

     35,184         15.3        30,924         13.7   

Midwest

     13,048         5.7        6,714         3.0   
  

 

 

    

 

 

   

 

 

    

 

 

 

Total Investments

   $ 229,770         100.0   $ 225,652         100.0
  

 

 

    

 

 

   

 

 

    

 

 

 

The geographic region indicates the location of the headquarters for our portfolio companies. A portfolio company may have additional business locations in other geographic regions.

 

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Table of Contents

Investment Principal Repayments

The following table summarizes the contractual principal repayments and maturity of our investment portfolio by fiscal year, assuming no voluntary prepayments, at June 30, 2012:

 

          Amount  

For the remaining nine months ending March 31:

  

2013

   $ 39,363   

For the fiscal year ending March 31:

  

2014

     27,568   
  

2015

     32,887   
  

2016

     26,775   
  

2017

     64,935   
  

Thereafter

     7,000   
     

 

 

 
  

Total contractual repayments

   $ 198,528   
  

Investments in equity securities

     77,959   
  

Adjustments to cost basis on debt securities

     (257
     

 

 

 
  

Total cost basis of investments held at June 30, 2012:

   $ 276,230   
     

 

 

 

Receivables from Portfolio Companies

Receivables from portfolio companies represent non-recurring costs that we incurred on behalf of portfolio companies and are included in other assets on our accompanying Condensed Consolidated Statements of Assets and Liabilities. We maintain an allowance for uncollectible receivables from portfolio companies, which is determined based on historical experience and management’s expectations of future losses. We charge the accounts receivable to the established provision when collection efforts have been exhausted and the receivables are deemed uncollectible. As of June 30 and March 31, 2012, we had gross receivables from portfolio companies of $0.4 million and $0.3 million, respectively. The allowance for uncollectible receivables was $0 at both June 30 and March 31, 2012.

 

NOTE 4. RELATED PARTY TRANSACTIONS

Investment Advisory and Management Agreement

We have entered into an investment advisory and management agreement with the Adviser (the “Advisory Agreement”), which is controlled by our chairman and chief executive officer. In accordance with the Advisory Agreement, we pay the Adviser certain fees as compensation for its services, such fees consisting of a base management fee and an incentive fee. On July 10, 2012, the Board of Directors approved the renewal of the Advisory Agreement through August 31, 2013.

The following table summarizes the management fees, incentive fees and associated credits reflected in our accompanying Condensed consolidated Statements of Operations:

 

     Three months ended June 30,  
     2012     2011  

Average total assets subject to base management fee

   $ 238,200      $ 201,600   

Multiplied by prorated annual base management fee of 2%

     0.5     0.5
  

 

 

   

 

 

 

Base management fee(A)

     1,191        1,008   

Reduction for loan servicing fees

     (868     (677
  

 

 

   

 

 

 

Adjusted base management fee

     323        331   

Credits for fees received by Adviser from the portfolio companies(A)

     (184     (215
  

 

 

   

 

 

 

Net base management fee

   $ 139      $ 116   
  

 

 

   

 

 

 

Incentive fee(A)

   $ —        $ 19   
  

 

 

   

 

 

 

 

(A) 

Reflected as a line item on our accompanying Condensed Consolidated Statement 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 our average total assets at the end of the two most recently-completed quarters. Average total assets 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 applicable quarters within the respective periods and adjusted appropriately for any share issuances or repurchases during the periods. 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 Investment, in return for which it receives a 2.0% 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 the Adviser are treated as reductions directly against the 2.0% base management fee under the Advisory Agreement.

 

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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 senior syndicated loan participations, for the three months ended June 30, 2012 and 2011, to the extent applicable.

 

   

Portfolio Company Fees

Under the Advisory Agreement, the 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. 50% of certain of these fees and 100% of other fees are credited against the base management fee that we 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 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 (7.0% 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).

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 our realized capital gains as of the end of the fiscal year. In determining the capital gains-based incentive fee payable to the 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. 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. No capital gains-based incentive fee has been recorded since our inception through June 30, 2012, as cumulative unrealized capital depreciation has exceeded cumulative realized capital gains net of cumulative realized capital losses.

Additionally, in accordance with GAAP, a capital gains-based incentive fee 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. 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 since our inception through June 30, 2012.

 

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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 receive fees in connection with managerial assistance, the Adviser provides other services to our portfolio companies and receives fees for these other services.

Administration Agreement

We have entered into an administration agreement (the “Administration Agreement”) with Gladstone Administration, LLC (the “Administrator”), an affiliate of the Adviser, 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 the salaries and benefits expenses of our chief financial officer and treasurer, chief compliance officer, internal counsel and their respective staffs. Our allocable portion of administrative expenses is generally derived by multiplying the 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 10, 2012, our Board of Directors approved the renewal of the Administration Agreement through August 31, 2013.

Related Party Fees Due

Amounts due to related parties on our accompanying Condensed Consolidated Statements of Assets and Liabilities were as follows:

 

     As of
June 30, 2012
     As of
March 31, 2012
 

Base management fee due to Adviser

   $ 123       $ 295   

Loan servicing fee due to Adviser

     196         218   

Incentive fee credit from Adviser

     —           (54

Other

     34         37   
  

 

 

    

 

 

 

Total fees due to Adviser

   $ 353       $ 496   
  

 

 

    

 

 

 

Fee due to Administrator

   $ 183       $ 218   
  

 

 

    

 

 

 

Total related party fees due

   $ 536       $ 714   
  

 

 

    

 

 

 

 

NOTE 5. BORROWINGS

Line of Credit

On April 14, 2009, through our wholly-owned subsidiary, Business Investment, we entered into a second amended and restated credit agreement providing for a $50.0 million revolving line of credit (the “Credit Facility”) arranged by Branch Banking and Trust Company (“BB&T”) as administrative agent. Key Equipment Finance Inc. also joined the Credit Facility as a committed lender.

On April 13, 2010, we entered into a third amended and restated credit agreement which extended the maturity date of the Credit Facility to April 13, 2012. Advances under the Credit Facility generally bear interest at the 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 0.50% per annum on undrawn amounts when advances outstanding are above 50.0% of the commitment and 1.0% on undrawn amounts if the advances outstanding are below 50.0% of the commitment.

On October 26, 2011, we entered into a fourth amended and restated credit agreement to increase the commitment amount under the Credit Facility to $60.0 million, reduce the interest rate and extend the maturity date. Subject to certain terms and conditions, the Credit Facility may be expanded up to a total of $175.0 million through the addition of other committed lenders to the facility. The Credit Facility matures on October 25, 2014 (the “Maturity Date”), and, if not renewed or extended by the Maturity Date, all principal and interest will be due and payable on or before October 25, 2015 (one year after the Maturity Date). Advances under the Credit Facility will generally bear interest at 30-day LIBOR, plus 3.75% per annum, with an unused fee of 0.50% on undrawn amounts. There are two one-year extension options, to be agreed upon by all parties, which may be exercised, subject to compliance with the covenants set forth in the credit agreement, on or before October 26, 2012 and October 26, 2013, as applicable.

 

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The following tables summarize noteworthy information related to our Credit Facility:

 

     As of June 30, 2012      As of March 31, 2012  

Commitment amount

   $ 60,000          $ 60,000   

Borrowings outstanding at cost

     31,000            —     

Availability

     28,349            58,399   

 

     For the Three Months Ended June 30,  
     2012     2011  

Weighted average borrowings outstanding

   $ 791      $ —     

Effective interest rate(A)

     41.9 %(B)      NM (C) 

Commitment (unused) fees incurred

   $ 75      $ 126   

 

(A) 

Excludes the impact of deferred financing fees.

(B) 

Due to limited borrowings outstanding, the commitment (unused) fees significantly increase the effective interest rate. The stated interest rate on advances will generally bear interest at 30-day LIBOR plus 3.75% per annum.

(C) 

NM = Not Meaningful

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 Investment, 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 The Bank of New York Mellon Trust Company, N.A as custodian. BB&T is the trustee of the account and remits the collected funds to us once a month.

The Credit Facility contains covenants that require Business Investment to maintain its status as a separate legal entity; prohibit certain significant corporate transactions (such as mergers, consolidations, liquidations or dissolutions) and restrict certain material changes to our credit and collection policies without the lenders’ consent. The Credit Facility also limits payments on distributions to the aggregate net investment income for each of the twelve-month periods ending March 31, 2012, 2013, 2014 and 2015. Business Investment 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 Investment to comply with other financial and operational covenants, which obligate Business Investment to, among other things, maintain certain financial ratios, including asset and interest coverage, a minimum net worth 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 worth (defined in the Credit Facility to include our Term Preferred Stock) of $155.0 million plus 50% of all equity and subordinated debt raised after October 26, 2011, (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. As of June 30, 2012, and as defined in the performance guaranty of our Credit Facility, we had a minimum net worth of $240.9 million, an asset coverage of 230% and an active status as a BDC and RIC. Our Credit Facility requires a minimum of 12 obligors in the borrowing base, and as of June 30, 2012, Business Investment had 15 obligors. As of June 30, 2012, we were in compliance with all of the Credit Facility covenants.

Short-Term Loan

Similar to previous quarter ends, to maintain our status as a RIC, we purchased $85.0 million of short-term U.S. Treasury Bills (“T-Bills”) through Jefferies & Company, Inc. (“Jefferies”) on June 28, 2012. As these T-Bills have a maturity of less than three months, we consider them to be cash equivalents and include them in Cash and cash equivalents on our accompanying Condensed Consolidated Statement of Assets and Liabilities as of June 30, 2012. The T-Bills were purchased on margin using $9.0 million in cash and the proceeds from a $76.0 million short-term loan from Jefferies with an effective annual interest rate of approximately 0.67%. On July 5, 2012, when the T-Bills matured, we repaid the $76.0 million loan from Jefferies, and on July 6, 2012, we received back the $9.0 million margin payment sent to Jefferies to complete the transaction.

Fair Value

We elected to apply ASC 825, “Financial Instruments,” specifically for our Credit Facility and short-term loan, which was consistent with the application of ASC 820 to our investments. Generally, we estimate the fair value of our 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, counterparty credit risk, current market yield and interest rate spreads of similar securities as of the measurement date. Additionally, due to the eight-day duration of the short-term loan, cost was deemed to approximate fair value. At each of June 30 and March 31, 2012, all of our borrowings were valued using Level 3 inputs. The following tables present the short-term loan and Credit Facility carried at fair value as of June 30 and March 31, 2012, by caption on our accompanying Condensed Consolidated Statements of Assets and Liabilities for Level 3 of the hierarchy established by ASC 820 and a roll-forward of the changes in fair value during the three months ended June 30, 2012 and 2011:

 

     Level 3 – Borrowings  
     Total Recurring Fair Value Measurement
Reported in
Condensed Consolidated
Statements of Assets and Liabilities
 
     June 30, 2012      March 31, 2012  

Short-Term Loan

   $ 76,010       $ 76,005   

Credit Facility

     31,492         —     
  

 

 

    

 

 

 

Total

   $ 107,502       $ 76,005   
  

 

 

    

 

 

 

 

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     Short-Term
Loan
    Credit
Facility
     Total Fair Value
Reported in
Condensed
Consolidated Statements
of Assets and Liabilities
 

Three months ended June 30, 2012:

       

Fair value at March 31, 2012

   $ 76,005      $ —         $ 76,005   

Borrowings

     76,010        31,000         107,010   

Repayments

     (76,005     —           (76,005

Net unrealized appreciation(A)

     —          492         492   
  

 

 

   

 

 

    

 

 

 

Fair value at June 30, 2012

   $ 76,010      $ 31,492       $ 107,502   
  

 

 

   

 

 

    

 

 

 

Three months ended June 30, 2011:

       

Fair value at March 31, 2011

   $ 40,000      $ —         $ 40,000   

Borrowings

     40,000        —           40,000   

Repayments

     (40,000     —           (40,000
  

 

 

   

 

 

    

 

 

 

Fair value at June 30, 2011

   $ 40,000      $ —         $ 40,000   
  

 

 

   

 

 

    

 

 

 

 

(A) 

Included in net unrealized (depreciation) appreciation on our accompanying Condensed Consolidated Statement of Operations for the three months ended June 30, 2012.

The fair value of the collateral under our Credit Facility was approximately $221.6 million and $228.3 million at June 30 and March 31, 2012, respectively. The fair value of the collateral under the short-term loan was approximately $85.0 million as of both June 30 and March 31, 2012.

 

NOTE 6. INTEREST RATE CAP AGREEMENTS

We have entered into multiple interest rate cap agreements with BB&T that effectively limit the interest rate on a portion of the borrowings under the line of credit pursuant to the terms of our Credit Facility. The agreements provide that the interest rate on a portion of our borrowings is capped at a certain interest rate when 30-day LIBOR is in excess of that certain interest rate. The fair value of the interest rate cap agreements is recorded in other assets on our accompanying Condensed Consolidated Statements of Assets and Liabilities. We record changes in the fair value of the interest rate cap agreements quarterly based on the current market valuations at quarter end as net unrealized appreciation (depreciation) of other on our accompanying Condensed Consolidated Statements of Operations. Generally, we will estimate the fair value of our interest rate caps using estimates of value provided by the counterparty and our 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. At both June 30 and March 31, 2012, our interest rate cap agreements were valued using Level 3 inputs. The following table summarizes the key terms of each interest rate cap agreement:

 

Interest Rate Cap(A)

   Notional
Amount
     LIBOR
Cap
    Effective
Date
   Maturity
Date
   As of June 30,
2012
     As of March 31,
2012
 
              Cost     Fair
Value
     Cost      Fair
Value
 

April 2010

   $ 45,000         6.0   May 2011    May 2012    $ —   (B)    $ —         $ 41       $ —     

December 2011

     50,000         6.0      May 2012    October 2013      29        2         29         2   

 

(A) 

Indicates date we entered into the interest rate cap agreement with BB&T.

(B) 

In May 2012, upon expiration of the April 2010 cap, we recognized a realized loss of $41.

The use of a cap agreement involves risks that are different from those associated with ordinary portfolio securities transactions. Cap agreements may be considered to be illiquid. Although we will not enter into any such agreements unless we believe that the other party to the transaction is creditworthy, we do bear the risk of loss of the amount expected to be received under such agreements in the event of default or bankruptcy of the agreement counterparty.

 

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NOTE 7. MANDATORILY REDEEMABLE PREFERRED STOCK

On March 6, 2012, we completed a public offering of 1,400,000 shares of 7.125% Series A Cumulative Term Preferred Stock (our “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 us, were $33.2 million, a portion of which was used to repay borrowings under our Credit Facility, with the remaining proceeds being held to make additional investments and for general corporate purposes. In connection with the offering, the underwriters exercised their option to purchase an additional 200,000 shares of our Term Preferred Stock to cover over-allotments, which resulted in gross proceeds of $5.0 million and net proceeds, after deducting underwriting discounts, of $4.8 million. These proceeds are also being held to make additional investments and for general corporate purposes. We incurred $2.0 million in total offering costs related to these transactions, which have been recorded as deferred financing costs on our Condensed Consolidated Statements of Assets and Liabilities and will be amortized over the redemption period ending February 28, 2017.

The shares have a redemption date of February 28, 2017, and are traded under the ticker symbol GAINP on the NASDAQ Global Select Market. The Term Preferred Stock is not convertible into our common stock or any other security. The Term Preferred Stock provides for a fixed dividend equal to 7.125% per year, payable monthly (which equates to approximately $2.9 million per year). We are required to redeem all of the outstanding Term Preferred Stock on February 28, 2017, for cash at a redemption price equal to $25.00 per share, plus an amount equal to accumulated but unpaid dividends, if any, to, but excluding, the date of redemption. In addition, there are three other potential redemption triggers: 1) upon the occurrence of certain events that would constitute a change in control of us, we would be required to redeem all of the outstanding Term Preferred Stock, 2) if we fail to maintain an asset coverage ratio of at least 200%, we are required to redeem a portion of the outstanding Term Preferred Stock or otherwise cure the ratio redemption trigger and 3) at our sole option, at any time on or after February 28, 2016, we may redeem some or all of the Term Preferred Stock.

Our Board of Directors declared the following monthly distribution to preferred stockholders for the three months ended June 30, 2012:

 

Fiscal Year

   Time Period    Declaration Date    Record Date    Payment Date    Distribution per Term
Preferred Share
 

2013

   April 1 – 30    April 11, 2012    April 20, 2012    April 30, 2012    $ 0.1484375   
   May 1 – 31    April 11, 2012    May 18, 2012    May 31, 2012      0.1484375   
   June 1 – 30    April 11, 2012    June 20, 2012    June 29, 2012      0.1484375   
              

 

 

 

Three months ended June 30, 2012:

   $ 0.4453125   
              

 

 

 

In accordance with ASC 480, “Distinguishing Liabilities from Equity,” mandatorily redeemable financial instruments should be classified as liabilities on the balance sheet and, therefore, the related dividend payments are treated as dividend expense on our Condensed Consolidated Statements of Operations at the ex-dividend date.

Aggregate Term Preferred Stock distributions declared and paid for the three months ended June 30, 2012 and 2011 were approximately $0.7 million and $0, respectively. The tax character of distributions paid by us to preferred stockholders is from ordinary income.

 

NOTE 8. COMMON STOCK

We filed a registration statement on Form N-2 (File No. 333-181879) with the SEC on June 4, 2012, and subsequently filed a Pre-effective Amendment No. 1 to the registration statement on July 17, 2012 and which the SEC declared effective on July 26, 2012. The registration statement will permit 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 securities and warrants to purchase common stock, including through a combined offering of such securities.

 

NOTE 9. 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 June 30, 2012 and 2011:

 

     Three months ended June 30,  
     2012     2011  

Numerator for basic and diluted net (decrease) increase in net assets resulting from operations per common share

   $ (3,017   $ 4,187   

Denominator for basic and diluted weighted average common shares

     22,080,133        22,080,133   
  

 

 

   

 

 

 

Basic and diluted net (decrease) increase in net assets resulting from operations per weighted average common share

   $ (0.13   $ 0.19   
  

 

 

   

 

 

 

 

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NOTE 10. DISTRIBUTIONS TO COMMON STOCKHOLDERS

We are required to pay out as distributions 90% of our ordinary income and short-term capital gains for each taxable year in order to maintain our status as a RIC under Subtitle A, Chapter 1 of Subchapter M of the Code. It is our policy to pay out as a distribution up to 100% of those amounts. The amount to be paid out as a distribution is determined by our Board of Directors each quarter and is based on our estimated taxable income by management. Based on that estimate, three monthly distributions are declared each quarter.

Our Board of Directors declared the following monthly distributions to common stockholders for the three months ended June 30, 2012 and 2011:

 

Fiscal Year

   Declaration Date    Record Date    Payment Date    Distribution
per Common Share
 

2013

   April 11, 2012    April 20, 2012    April 30, 2012    $ 0.050   
   April 11, 2012    May 18, 2012    May 31, 2012      0.050   
   April 11, 2012    June 20, 2012    June 29, 2012      0.050   
           

 

 

 

Three months ended June 30, 2012:

   $ 0.150   
           

 

 

 

2012

   April 12, 2011    April 22, 2011    April 29, 2011    $ 0.045   
   April 12, 2011    May 20, 2011    May 31, 2011      0.045   
   April 12, 2011    June 20, 2011    June 30, 2011      0.045   
           

 

 

 

Three months ended June 30, 2011:

   $ 0.135   
           

 

 

 

Aggregate common distributions declared quarterly and paid for the three months ended June 30, 2012 and 2011 were approximately $3.3 million and $3.0 million, respectively, which were declared based on estimates of net investment income for the respective fiscal years. For the fiscal year ended March 31, 2012, taxable income available for common distributions exceeded distributions declared and paid, and, in accordance with Section 855(a) of the Code, we elected to treat $0.7 million of the first common distribution paid in fiscal year 2013 as having been paid in the prior year.

 

NOTE 11. COMMITMENTS AND CONTINGENCIES

At June 30, 2012, we have lines of credit commitments to certain of our portfolio companies that have not been fully drawn. Since these lines of credit have expiration dates and we expect many will never be fully drawn, the total line of credit commitment amounts do not necessarily represent future cash requirements.

In addition to the lines of credit to certain portfolio companies, we have also extended certain guarantees on behalf of some of our portfolio companies. As of June 30, 2012, we have not been required to make any payments on the guarantees discussed below, and we consider the credit risk to be remote and the fair values of the guarantees to be minimal.

 

   

In October 2008, we executed a guarantee of a vehicle finance facility agreement (the “Finance Facility”) between Ford Motor Credit Company (“Ford”) and ASH. The Finance Facility provides ASH with a line of credit of up to $0.5 million for component Ford parts used by ASH to build truck bodies under a separate contract. Ford retains title and ownership of the parts. The guarantee of the Finance Facility will expire upon termination of the separate parts supply contract with Ford or upon replacement of us as guarantor.

 

   

In February 2010, we executed a guarantee of a wholesale financing facility agreement (the “Floor Plan Facility”) between Agricredit Acceptance, LLC (“Agricredit”) and CCE. The Floor Plan Facility provides CCE with financing of up to $2.0 million to bridge the time and cash flow gap between the order and delivery of golf carts to customers. The guarantee was renewed in February 2011 and again in February 2012 and expires in February 2013, unless it is renewed again by us, CCE and Agricredit. In connection with this guarantee and its subsequent renewals, we recorded aggregate premiums of $0.2 million from CCE.

 

   

In April 2010, we executed a guarantee of vendor recourse for up to $2.0 million in individual customer transactions (the “Recourse Facility”) between Wells Fargo Financial Leasing, Inc. and CCE. The Recourse Facility provides CCE with the ability to provide vendor recourse up to a limit of $2.0 million on transactions with long-time customers who lack the financial history to qualify for third-party financing. The terms to maturity of these individual transactions range from October 2014 to October 2016. In connection with this guarantee, we received aggregate premiums of $0.1 million from CCE.

We estimated the fair value of such unused commitments and guarantees as of June 30 and March 31, 2012 to be minimal; and therefore, they are not recorded on our accompanying Condensed Consolidated Statements of Assets and Liabilities. The following table summarizes the dollar balance of unused line of credit commitments and guarantees as of June 30 and March 31, 2012:

 

     As of June 30,      As of March 31,  
     2012      2012  

Unused line of credit commitments

   $ 821       $ 1,671   

Guarantees

     4,434         4,748   
  

 

 

    

 

 

 

Total

   $ 5,255       $ 6,419   
  

 

 

    

 

 

 

 

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Escrow Holdbacks

From time to time, we 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. We record escrow amounts in restricted cash on our accompanying Condensed Consolidated Statements of Assets and Liabilities. We establish a contingent liability against the escrow amounts if we determine 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 $0.6 million as of both June 30 and March 31, 2012, and is included in other liabilities on our accompanying Condensed Consolidated Statements of Assets and Liabilities.

 

NOTE 12. FINANCIAL HIGHLIGHTS

 

     Three months ended June 30,  
     2012     2011  

Per Common Share Data

    

Net asset value at beginning of period(A)

   $ 9.38      $ 9.00   

Net investment income(B)

     0.15        0.16   

Realized gain on sale of investments and other(B)

     —          0.26   

Net unrealized depreciation of investments and other(B)

     (0.28     (0.23
  

 

 

   

 

 

 

Total from investment operations(B)

     (0.13     0.19   

Cash distributions from net investment income(B)(C)

     (0.15     (0.13
  

 

 

   

 

 

 

Net asset value at end of period(A)

   $ 9.10      $ 9.06   
  

 

 

   

 

 

 

Per share market value at beginning of period

   $ 7.57      $ 7.79   

Per share market value at end of period

     7.39        7.14   

Total return(D)

     (0.38 )%      (6.67 )% 

Shares outstanding at end of period

     22,080,133        22,080,133   

Statement of Assets and Liabilities Data:

    

Net assets at end of period

   $ 200,887      $ 200,035   

Average net assets(E)

     204,858        198,324   

Senior Securities Data(F):

    

Total borrowings, at cost

   $ 107,010      $ —     

Mandatorily redeemable preferred stock

     40,000        40,000   

Asset coverage ratio(G)

     230     537

Average coverage per unit(H)

   $ 2,300      $ 5,371   

Ratios/Supplemental Data:

    

Ratio of expenses to average net assets(I)(J)

     5.57     3.99

Ratio of net expenses to average net assets(I)(K)

     5.21     3.55

Ratio of net investment income to average net assets(I)

     6.32     7.06

 

(A) 

Based on actual shares outstanding at the end of the corresponding period.

(B) 

Based on weighted average per basic 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) 

Total return equals the change in the market value of our common stock from the beginning of the period, taking into account dividends reinvested in accordance with the terms of our 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 our distributions to common stockholders, please refer to Note 10—Distributions to Common Stockholders.

(E) 

Calculated using the average balance of net assets at the end of each month of the reporting period.

(F) 

The 1940 Act currently permits us to issue senior securities representing indebtedness and senior securities that are stock, to which we refer to as “senior securities.”

(G) 

As a BDC, we are generally required to maintain an asset coverage ratio (as defined in Section 18(h) of the 1940 Act) of at least 200% on our senior securities representing indebtedness and our senior securities that are stock. Our mandatorily redeemable preferred stock is a senior security that is stock.

(H) 

Asset coverage per unit is the asset coverage ratio expressed in terms of dollar amounts per one thousand dollars of indebtedness.

(I) 

Amounts are annualized.

(J) 

Ratio of expenses to average net assets is computed using expenses before credits from the Adviser.

(K) 

Ratio of net expenses to average net assets is computed using total expenses net of credits to the management fee.

 

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NOTE 13. SUBSEQUENT EVENTS

Portfolio Activity

Subsequent to June 30, 2012, the following transaction occurred:

 

   

In July 2012, we invested $22.5 million in a new Control investment, Ginsey Holdings, Inc. (“Ginsey”), through a combination of debt and equity. Ginsey, headquartered in Bellmawr, New Jersey, designs and markets a broad line of branded juvenile and adult bath products.

Short-Term Loan

On June 28, 2012, we purchased $85.0 million of T-Bills through Jefferies. The T-Bills were purchased on margin using $9.0 million in cash and the proceeds from a $76.0 million short-term loan from Jefferies with an effective annual interest rate of approximately 0.67%. On July 5, 2012, when the T-Bills matured, we repaid the $76.0 million loan from Jefferies, and on July 6, 2012, we received the $9.0 million margin payment sent to Jefferies to complete the transaction.

Registration Statement

We filed a registration statement on Form N-2 (File No. 333-181879) with the SEC on June 4, 2012, and subsequently filed a Pre-effective Amendment No. 1 to the registration statement on July 17, 2012 and which the SEC declared effective on July 26, 2012. The registration statement will permit 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 securities and warrants to purchase common stock, including through a combined offering of such securities.

Distributions

On July 10, 2012, our 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
 

July 20, 2012

   July 31, 2012    $ 0.05       $ 0.1484375   

August 22, 2012

   August 31, 2012      0.05         0.1484375   

September 19, 2012

   September 28, 2012      0.05         0.1484375   
     

 

 

    

 

 

 

Total for the Quarter:

   $ 0.15       $ 0.4453125   
     

 

 

    

 

 

 

Co-Investment Order

In an order dated July 26, 2012, the SEC granted us the relief sought in the exemptive application we had previously filed with the SEC that expands our ability to co-invest with certain affiliates by permitting us, under certain circumstances, to co-invest with Gladstone Capital Corporation and any future business development company or closed-end management investment company that is advised by our Adviser (or sub-advised by our Adviser if it controls the fund) or any combination of the foregoing.

 

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ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

All statements contained herein, 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 “estimate,” “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. We caution readers not to place undue reliance on any such forward-looking statements. 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 Form 10-Q.

The following analysis of our financial condition and results of operations should be read in conjunction with our condensed consolidated financial statements and the notes thereto contained elsewhere in this report and in our Annual Report on Form 10-K for the fiscal year ended March 31, 2012.

OVERVIEW

General

We were incorporated under the General Corporation Law of the State of Delaware on February 18, 2005. We were established for the purpose of investing in debt and equity securities of established private businesses in the United States (“U.S.”). These investments primarily come in the form of subordinated loans, mezzanine debt, preferred stock, common stock and warrants to purchase common stock of small and medium-sized companies in connection with buyouts and other recapitalizations. We also invest in senior secured loans 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 (“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

The direction and relative strength of the global economy, and the U.S. economy in particular, continue to be uncertain and volatile, and 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 investments, are impacted by these economic conditions. If these conditions 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.

Despite the challenges in these uncertain economic times, over the past year, we have been able to complete both a renewal and increase in borrowing capacity under our line of credit (our “Credit Facility”) and a preferred stock public offering. In October 2011, we entered into a fourth amended and restated credit agreement that increased the commitment amount to $60.0 million, reduced the interest rate and extended the maturity of our Credit Facility until 2014. In March 2012, we issued 1,600,000 shares of 7.125% Series A Cumulative Term Preferred Stock (our “Term Preferred Stock”) for gross proceeds of $40.0 million. In addition, subsequent to June 30, we have been granted relief by the Securities and Exchange Commission (“SEC”) that expands our ability to co-invest in portfolio companies with certain affiliated investment funds, subject to certain circumstances, which we believe will enhance our ability to further our investment strategy and objectives. We discuss each of the foregoing in detail below under “Recent Developments.”

 

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While conditions remain challenging, we are seeing an increase in the number of new investment opportunities consistent with our investing strategy of providing a combination of subordinated debt with equity enhancement features and direct equity in support of management and sponsor-led buyouts of small and medium-sized companies in the U.S. These new investment opportunities have translated into us investing approximately $145.9 million into eight new proprietary debt and equity deals since October 2010. During the three months ended June 30, 2012, we invested $9.5 million in Packerland Whey Products, Inc. (“Packerland”), a processor of raw fluid whey, specializing in the production of protein supplements for dairy and beef cattle. Additionally, subsequent to quarter-end, we invested $22.5 million in Ginsey Holdings, Inc. (“Ginsey”), which designs and markets a broad line of branded juvenile and adult bath products.

The increased investing opportunities in the marketplace have also presented opportunities for us to achieve realized gains and other income. In April 2011, we sold our equity investment and received partial redemption of our preferred stock, while investing new subordinated debt, in Cavert II Holding Corporation (“Cavert”) as part of a recapitalization. The gross cash proceeds to us from the sale of our equity in Cavert were $5.6 million, resulting in a realized gain of $5.5 million. At the same time, we received $2.3 million in a partial redemption of our preferred stock, received $0.7 million in preferred dividends and invested $5.7 million in new subordinated debt of Cavert. In fiscal year 2011, we achieved a significant amount of liquidity and realized gains with the sales of A. Stucki Holding Corp. (“A. Stucki”) and Chase II Holding Corp. (“Chase”) for total proceeds of $83.9 million and an aggregate realized gain of $23.5 million. In addition, we recorded $9.1 million of other income, including success fee and dividend income, resulting from these exits.

The A. Stucki, Chase, and Cavert sales were our first management-supported buyout liquidity events, and each was an equity investment success, highlighting our investment strategy of striving to achieve returns through current income from debt investments and capital gains from equity investments. We will strive to utilize the existing borrowing availability under our Credit Facility to make new investments that will potentially increase our net investment income and generate capital gains to enhance our ability to pay dividends to our stockholders.

Due to the limited number of investments in our portfolio, our current asset composition has affected our ability to satisfy certain elements of the Code’s rules for maintenance of our RIC status. To maintain our status as a RIC, in addition to other requirements, as of the close of each quarter of our taxable year, we must meet the asset diversification test, which requires that at least 50% of the value of our assets consist of cash, cash items, U.S. government securities or certain other qualified securities (the “50% threshold”). During the quarter ended June 30, 2012, we again fell below the 50% threshold.

Failure to meet the 50% threshold alone will not result in our loss of RIC status. In circumstances where the failure to meet the 50% threshold is the result of fluctuations in the value of assets, including as a result of the sale of assets, we will still be deemed to have satisfied the 50% threshold and, therefore, maintain our RIC status, provided that we have not made any new investments, including additional investments in our existing portfolio companies (such as advances under outstanding lines of credit), since the time that we fell below the 50% threshold. At June 30, 2012, we satisfied the 50% threshold primarily through the purchase of short-term qualified securities, which was funded through a short-term loan agreement. Subsequent to the June 30, 2012 measurement date, the short-term qualified securities matured and we repaid the short-term loan. See “—Recent Developments—Short-Term Loan” for more information regarding this transaction. As of the date of this filing, we remain below the 50% threshold.

Thus, while we currently qualify as a RIC despite our recent inability to meet the 50% threshold and potential inability to do so in the future, if we make any new or additional investments before regaining compliance with the asset diversification test, our RIC status will be threatened. If we make a new or additional investment and fail to regain compliance with the 50% threshold on the next quarterly measurement date following such investment, we will be in non-compliance with the RIC rules and will have thirty days to “cure” our failure to meet the 50% threshold to avoid the loss of our RIC status. Potential cures for failure of the asset diversification test include raising additional equity or debt capital, or changing the composition of our assets, which could include full or partial divestitures of investments, such that we would once again exceed the 50% threshold on a consistent basis.

Until the composition of our assets is above the required 50% threshold on a consistent basis, we will continue to seek to employ similar purchases of qualified securities using short-term loans that would allow us to satisfy the 50% threshold, thereby allowing us to make additional investments. There can be no assurance, however, that we will be able to enter into such a transaction on reasonable terms, if at all. We also continue to explore a number of other strategies, including changing the composition of our assets, which could include full or partial divestitures of investments, and raising additional equity or debt capital, such that we would once again exceed the 50% threshold on a consistent basis. Our ability to implement any of these strategies will be subject to market conditions and a number of risks and uncertainties that are, in part, beyond our control.

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 an asset coverage ratio (as defined in Section 18(h) of the 1940 Act), of at least 200% on our senior securities. As of June 30, 2012, our asset coverage ratio was 230%. The ratio is impacted, in part, by our need to obtain a short-term loan at quarter end to satisfy the 50% threshold for our RIC status. Between the quarter end measurement dates, when we do not have a short-term loan outstanding, our leverage and asset coverage ratio improve. However,

 

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until the composition of our assets is above the required 50% threshold on a consistent basis, we will have to continue to obtain short-term loans on a quarterly basis. This strategy, while allowing us to satisfy the 50% threshold for our RIC status, limits our ability to use increased debt capital to make new investments, due to our asset coverage ratio limitations under the 1940 Act.

Market conditions have also presumably affected the trading price of our common stock and thus our ability to finance new investments through the issuance of equity. On July 27, 2012, the closing market price of our common stock was $7.49, which represented a 17.7% discount to our June 30, 2012, net asset value (“NAV”) per share of $9.10. When our stock trades below NAV, our ability to issue equity is constrained by provisions of the 1940 Act, which generally prohibits the issuance and sale of our common stock at an issuance price below NAV per 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 August 4, 2011, our stockholders approved a proposal which authorizes us to sell shares of our common stock at a price below our then current NAV per share, subject to certain limitations, including 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, provided that our Board of Directors makes certain determinations prior to any such sale. This proposal is in effect for one year from the date of stockholder approval. At our next annual meeting of stockholders scheduled to take place on August 9, 2012, we will ask our stockholders to vote in favor of this proposal for another year.

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, in light of increased investing opportunities that we see in our target markets, as demonstrated by our eight originated investments totaling $145.9 million since October 2010, we are cautiously optimistic about the long-term prospects for the U.S. economy and will continue our strategy of making conservative investments in businesses that we believe will weather the current economic conditions and that are likely to produce attractive long-term returns for our stockholders. Despite the liquidity that we were able to generate with the A. Stucki, Chase and Cavert transactions, the increased commitment on our Credit Facility and our recent public offering of Term Preferred Stock, a significant amount of this liquidity has been used in our origination activity. Future investment activity may be dependent on our access to capital, which may be limited or challenged and other events beyond our control may still encumber our ability to make new investments in the future.

Investment Highlights

During the three months ended June 30, 2012, we disbursed $9.5 million in new debt and equity investments and extended $3.3 million of investments to existing portfolio companies through revolver draws or additions to term notes. From our initial public offering in June 2005 through June 30, 2012, we have made 172 investments in 95 companies for a total of approximately $729.2 million, before giving effect to principal repayments on investments and divestitures.

Investment Activity

During the three months ended June 30, 2012, the following significant transaction occurred:

 

   

In May 2012, we invested $9.5 million in a new Affiliate investment, Packerland, through a combination of debt and equity. Packerland, headquartered in Luxemburg, Wisconsin, is a processor of raw fluid whey, specializing in the production of protein supplements for dairy and beef cattle.

Refer to Note 13, “Subsequent Events,” in our Condensed Consolidated Financial Statements included elsewhere in this Form 10-Q for investment activity occurring subsequent to June 30, 2012.

Recent Developments

Short-Term Loan

For each quarter end since June 30, 2009 (the “measurement dates”), we satisfied the 50% threshold to maintain our status as a RIC, in part, through the purchase of short-term qualified securities, which were funded primarily through a short-term loan agreement. Subsequent to each of the measurement dates, the short-term qualified securities matured, and we repaid the short-term loan, at which time we again fell below the 50% threshold.

Therefore, similar to previous quarter ends, to maintain our status as a RIC, we purchased $85.0 million of short-term United States Treasury Bills (“T-Bills”) through Jefferies & Company, Inc. (“Jefferies”) on June 28, 2012. As these T-Bills have a maturity of less than three months, we consider them to be cash equivalents and include them in cash and cash equivalents on our accompanying Condensed Consolidated Statement of Assets and Liabilities as of June 30, 2012. The T-Bills were purchased on margin using $9.0 million in cash and the proceeds from a $76.0 million short-term loan from Jefferies with an effective annual interest rate of approximately 0.67%. On July 5, 2012, when the T-Bills matured, we repaid the $76.0 million loan from Jefferies, and on July 6, 2012, we received the $9.0 million margin payment sent to Jefferies to complete the transaction.

 

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Term Preferred Stock Offering

On March 6, 2012, we completed an offering of 1,400,000 shares of Term Preferred Stock at a public offering price of $25.00 per share under our previous shelf registration statement on Form N-2 (File No. 333-160720). Net proceeds of the offering, after deducting underwriting discounts and offering expenses borne by us, were approximately $33.2 million, a portion of which was used to repay borrowings under our Credit Facility, with the remaining proceeds being held to make additional investments and for general corporate purposes. On March 13, 2012, the underwriters purchased an additional 200,000 shares of our Term Preferred Stock to cover over-allotments, for which we received net proceeds, after deducting underwriting discounts, of $4.8 million.

Co-Investment Order

In an order dated July 26, 2012, the SEC granted us the relief sought in the exemptive application we had previously filed with the SEC that expands our ability to co-invest with certain affiliates by permitting us, under certain circumstances, to co-invest with Gladstone Capital Corporation and any future business development company or closed-end management investment company that is advised by our investment adviser, Gladstone Management Corporation, (our “Adviser”) (or sub-advised by our Adviser if it controls the fund) or any combination of the foregoing.

Our Adviser and Administrator

Investment Advisory and Management Agreement

Under the amended and restated investment advisory and management agreement with our Adviser (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 quarters and appropriately adjusted for any share issuances or repurchases during the current 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.

Since April 2008, our Board of Directors has accepted from our Adviser unconditional and irrevocable voluntary 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 paid to the Adviser.

The Adviser also services our loan portfolio pursuant to a loan servicing agreement with Business Investment in return for a 2.0% annual fee, based on the monthly aggregate outstanding loan balance of the loans pledged under our Credit Facility.

On July 10, 2012, our Board of Directors approved the renewal of the Advisory Agreement with our Adviser through August 31, 2013.

Administration Agreement

We have entered into 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 salaries and benefits expenses of our chief financial officer and treasurer, 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 10, 2012, our Board of Directors approved the renewal of this Administration Agreement with our Administrator through August 31, 2013.

 

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RESULTS OF OPERATIONS

Comparison of the Three months ended June 30, 2012, to the Three months ended June 30, 2011

 

     For the Three Months Ended June 30,  
     2012     2011     $ Change     % Change  

INVESTMENT INCOME

        

Interest income

   $ 5,511      $ 4,411      $ 1,100        24.9

Other income

     394        851        (457     (53.7
  

 

 

   

 

 

   

 

 

   

 

 

 

Total investment income

     5,905        5,262        643        12.2   
  

 

 

   

 

 

   

 

 

   

 

 

 

EXPENSES

        

Base management fee

     1,191        1,008        183        18.2   

Incentive fee

     —          19        (19     (100.0

Administration fee

     183        151        32        21.2   

Interest and dividend expense

     805        132        673        509.8   

Amortization of deferred financing costs

     200        108        92        85.2   

Other

     472        559        (87     (15.6
  

 

 

   

 

 

   

 

 

   

 

 

 

Expenses before credits from Adviser

     2,851        1,977        874        44.2   

Credits to fees

     (184     (215     31        (14.4
  

 

 

   

 

 

   

 

 

   

 

 

 

Total expenses net of credits to fees

     2,667        1,762        905        51.4   
  

 

 

   

 

 

   

 

 

   

 

 

 

NET INVESTMENT INCOME

     3,238        3,500        (262     (7.5
  

 

 

   

 

 

   

 

 

   

 

 

 

REALIZED AND UNREALIZED (LOSS) GAIN:

        

Net realized (loss) gain on investments

     (46     5,739        (5,785     NM   

Net realized loss on other

     (41     (39     (2     5.1   

Net unrealized depreciation of investments

     (5,717     (5,052     (665     13.2   

Net unrealized (depreciation) appreciation of other

     (451     39        (490     NM   
  

 

 

   

 

 

   

 

 

   

 

 

 

Net realized and unrealized (loss) gain on investments and other

     (6,255     687        (6,942     NM   
  

 

 

   

 

 

   

 

 

   

 

 

 

NET (DECREASE) INCREASE IN NET ASSETS RESULTING FROM OPERATIONS

   $ (3,017   $ 4,187      $ (7,204     NM   
  

 

 

   

 

 

   

 

 

   

 

 

 

NET (DECREASE) INCREASE IN NET ASSETS RESULTING FROM OPERATIONS PER COMMON SHARE – BASIC AND DILUTED

   $ (0.13   $ 0.19      $ (0.32     NM   
  

 

 

   

 

 

   

 

 

   

 

 

 

NM = Not Meaningful

Investment Income

Total investment income increased by 12.2% for the three months ended June 30, 2012, as compared to the prior year period. This increase was primarily due an overall increase in interest income in the three months ended June 30, 2012, as a result of an increase in the size of our loan portfolio and holding higher-yielding debt investments during the three months ended June 30, 2012, partially offset by a decrease in other income, which primarily resulted from dividend income received in connection to Cavert’s recapitalization in April 2011.

Interest income from our investments in debt securities increased 24.9% for the three months ended June 30, 2012, as compared to the prior year period. The level of interest income from investments is directly related to the principal balance of our 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 three months ended June 30, 2012, was approximately $177.1 million, compared to approximately $147.3 million for the prior year period. This increase was primarily due to originating investments in SOG Specialty K&T, LLC (“SOG”), SBS, Industries, LLC (“SBS”), Channel Technologies Group, LLC (“Channel Technologies”) and Packerland, partially offset by the payoff of our debt investments in Survey Sampling, LLC (“Survey Sampling”), Quench Holdings Corp. (“Quench”) and American Greetings Corporation (“AMG”) and the restructuring of Country Club Enterprises, LLC (“CCE”). At June 30, 2012, loans to two portfolio companies, ASH Holdings Corp. (“ASH”) and CCE, were on non-accrual, with an aggregate weighted average principal balance of $16.9 million during the three months ended June 30, 2012. At June 30, 2011, loans to one portfolio company, ASH, were on non-accrual, with a weighted average principal balance of $9.8 million during the three months ended June 30, 2011. CCE was placed on non-accrual during the three months ended September 30, 2011.

 

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The weighted average yield on our interest-bearing investments for the three months ended June 30, 2012, excluding cash and cash equivalents and receipts recorded as other income, was 12.5%, compared to 12.0% 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 increase in the weighted average yield for the three months ended June 30, 2012, is a result of the exits of lower interest-bearing debt investments, such as Survey Sampling, Quench and AMG, which had an aggregate, weighted-average interest rate of 9.7% at the time of their respective exits, and the addition of higher-yielding debt investments in SOG, SBS, Channel Technologies and Packerland, which had an aggregate, weighted average interest rate of 13.2% as of June 30, 2012.

The following table lists the investment income for our five largest portfolio company investments at fair value during the respective periods:

 

     As of June 30, 2012     Three months ended June 30, 2012  

Company

   Fair Value      % of
Portfolio
    Investment
Income
     % of Total
Investment
Income
 

SOG Specialty Knives and Tools, LLC

   $ 30,554         13.3   $ 662         11.2

Acme Cryogenics, Inc.

     27,381         11.9        422         7.1   

Venyu Solutions, Inc.

     21,952         9.5        624         10.6   

Mitchell Rubber Products, Inc.

     19,746         8.6        446         7.6   

Channel Technologies Group, LLC

     18,556         8.1        472         8.0   
  

 

 

    

 

 

   

 

 

    

 

 

 

Subtotal—five largest investments

     118,189         51.4        2,626         44.5   

Other portfolio companies

     111,581         48.6        3,279         55.5   
  

 

 

    

 

 

   

 

 

    

 

 

 

Total investment portfolio

   $ 229,770         100.0   $ 5,905         100.0
  

 

 

    

 

 

   

 

 

    

 

 

 
     As of June 30, 2011     Three months ended June 30, 2011