Gladstone Capital Corporation, F3Q09 Earnings Call Transcript

| About: Gladstone Capital (GLAD)

Gladstone Capital Corporation (NASDAQ:GLAD)

F3Q09 Earnings Call

February 4, 2009 8:30 am ET


David Gladstone – Chairman

Chip Stelljes – President and Chief Investment Officer

Gresford Gray – Chief Financial Officer


Greg Mason – Stifel Nicolaus & Company, Inc.

Vernon Plack –BB&T Capital Markets

[Fred Muffler - MMA Realty]


Greetings and welcome to the Gladstone Capital Third Quarter 2009 Earnings Conference Call. (Operator Instructions) It is now my pleasure to introduce your host Mr. David Gladstone, Chairman for Gladstone Capital. Thank you Mr. Gladstone, you may begin.

David Gladstone

And thank you Claudia for that nice introduction. Hello and good morning to all of you out there. This is David Gladstone, Chairman. This is the quarterly conference call for shareholders and analysts of Gladstone Capital, traded on NASDAQ trading symbol GLAD. Again, thank you all for calling in. We are always happy to talk to shareholders about our company and I really wish there were more often periods that we could get together on the phone.

I hope you’ll sign up for the e-mail notices so you get information coming directly to you from the company and please remember that if you are in the Washington DC area, and you have time, you have an open invitation to come by and stop and visit us here in McLean, Virginia, a suburb of Washington DC. Just please stop by and say hello. You’ll see great people, some of the finest people in the business working for you here.

And now I need to read the statement. This conference call may include statements that may constitute forward looking statements within the meaning of the Securities Act of 1933 and the Security Exchange Act of 1934 including statements with regard to the future performance of the company. These forward looking statements inherently involve certain risks and uncertainties even though they are based on our current plans and we believe those plans to be reasonable.

There are many factors that may cause our actual results to be materially different from any future results that are expressed or implied by these forward looking statements including those factors listed under risk factors in our 10-K and 10-Q filings and our prospectuses filed with the Securities and Exchange Commission. That can be found on our Web site at and also on the SEC website. The company undertakes no obligation to publicly update or revise any forward looking statements whether as a result of new information, future events or otherwise.

For those of you who have been on many of these calls before, we have changed the format and go at it a new way of reporting to you so that you can hear from some of the team that’s working here for you other than just me talking all the time. I have no plans to leave, but you should know that there are a lot of talented team members here at the company. And we think shareholders should hear from them.

We’ll start with the President of the bunch, Chip Stelljes. Chip is also the Chief Investment Officer of all the Gladstone companies and he’ll cover a lot of ground for us.

Chip Stelljes

Thanks David. As many of you know, we continue to operate in a historically difficult environment from an economic financial sector and investment perspective. And through the first fiscal quarter that ended 12-31-2008, the environment actually worsened for making new investments. And while the longer term prospects and our deal flow remain strong the continued instability of the financial and lending markets combined with the significant downturn in the economy and the lack of any real visibility into the rest of 2009 has left many investors, as well as ourselves, on the sidelines.

We did not close any new investments during the quarter. The new investment production of 8.7 million went entirely into existing portfolio companies in the form of additional investments or draws on the walls of facilities.

In the quarter, we received repayments of approximately 17.1 million due to loan payoffs, investment sales, normal amortization on loans, and pay down of revolvers resulting in a net production decrease of 8.4 million for the quarter. Since the end of the quarter, we have made about 4.2 million in additional investments in existing portfolio customers.

The pipeline continues to be strong. We see noticeable change, obviously, of the opportunities coming to us. Banks and buy-out firms are calling us aggressively because so many lenders are no longer investing and pricing and structure continue to improve. Fortunately finding new investments with strong 2008 performance in a positive outlook for 2009 are few and far between. If we can find them, we can make some strong loans at this time, provided we have the capital to do so.

The net decrease of investments from the quarter of 8.4 million allows us to deleverage or to reinvest the funds into higher yielding opportunities. We continue to look at ways to decrease the yield on existing funds by refinancing lower yield and senior loans with third party lenders while trying to maintain the high yielding junior debt on our balance sheet.

Our deal flow investments, again, is large, but we really need to be confident that we understand the economic cycle ahead of us and that we understand the economic cycle ahead of us and that we have the capital to pursue the pipeline opportunities.

At the end of the December quarter, our investment portfolio was valued at approximately 385 million versus a cost basis of 451 million, so our portfolio was fair valued at approximately 85% of cost. Depreciation for the quarter was therefore about 3%. We continue to remain confident that the devaluation is more reflective of the broader market for loans rather than any substantial change in the quality of our portfolio.

Clearly there were some loans being dumped by banks and hedge funds at the end of the year at buyer sale pricing rather than pricing derived from an orderly market. The use of fair value comes into suspect when there are forced sellers and limited buyers or in some cases, no sellers and no buyers. Even though values are slightly lower this quarter, we expect most of the portfolio to continue paying as agreed to the near term. We are watching our portfolio of company revenues and backlogs very carefully to judge where we think underlying companies are headed for the year.

At the end of the quarter, we had three loans on nonaccrual and two additional loans that were not performing well with a combined total cost basis of about 2.6 million. We are in control of two of the companies with loans on nonaccrual and we’re working aggressively to fix the problems and improve their profitability. Two of these situation require us to insert new management because the issues at the companies were more company-specific and not necessarily due to the tough economy. And we now have new management teams in place to help us on those two and we are beginning to see some results there.

On the dollar basis, the five nonperforming loans have a cost basis again of 12.6 million or less than 3% of the cost basis of all loans in our portfolio. In our opinion, it’s a good statistic for the difficult time that we’re in. Jake almost all of our exited investments had a positive internal rate of return. We may have some losses in the future but we really are working very hard to keep them to a minimum.

We continue to have a high concentration of variable rate so that we participate in rate increase. And while our rates are very low, they often have a minimum rate or a floor so that the declining interest rates are mitigated. About 70% of our loans have these floors. Unfortunately, 30% of our loans do not have floors and with floating rates having fallen, we have been generating less income.

At December 31, 2008, we had two fixed-rate loans at a cost basis of 14 million or approximately 3% of the cost basis of our total portfolio of loans and investments.

Another measure of the quality of our assets is reflected in the fact that our average loan rating for the quarter that just ended remains relatively unchanged. Our risk rating system gives the probability of default ratings for the portfolio with a scale of zero to ten with zero representing the high probability of default and ten a low probability, our risk rating system for non-syndicating loans showed an average of 7.3 for this quarter. This was the same for the prior year quarter.

The average risk rating for unrated syndicated loans was 6.5 for this quarter versus an average of 6.3 for the prior year’s quarter. For our rated syndicated loans, they had an average rating of Triple-C+ or Caa1 for this quarter and the prior year quarter. Overall, the risk profile has remained constant according to our risk rating model and we think we’re fine and are satisfied with our current portfolio mix.

In addition to the solid quality of assets, the quality of income remains good. As we’ve discussed before, some companies structure investments to be paid in or originally issue discount structures. This generates noncash income which happens to be accrued for book and tax but is not received until much later, sometimes not at all.

This income is subject to our 90% payout requirements. So the company does not receive the cash unless they pay off the income. So we avoid these structures for this reason. Since inception, we have made loans to approximately 132 companies.

We have been repaid or exited from 71. The average return of the exits has been about 13% for syndicated loans and 16% for non-syndicated loans. We have a seven year track record and we hope to continue it this year, which is a difficult one obviously.

Since last quarter, the senior and second lien debt market place for larger middle market companies has continued to have tremendous liquidity problems. For the most part, the market was closed. That is, there were very few buyers. We have about 72 million in our cost basis in senior and second lien syndicated loans.

This is where we have most of our variable rate loans without force and these loans have seen their value decline more than the others. The market pricing for the large and middle-market loans continues to change.

For senior syndicated loans of 200 million or more, last year’s rates were about two-and-a-half percent over LIBOR. LIBOR of course is the London Interbank Offered Rate which is recognized as the leading indicator of short-term corporate rates.

And now they seem to be closer to 6% or more because these loans are at higher spreads, this causes older loans to come in at a lower market price. However, if we continue to hold these loans until they mature, we should get 100% of our capital back with no loss. If we had to sell them today at the higher sale prices, we would have a loss. All but one of these syndicated loans is paying as agreed.

In addition to widening spreads over LIBOR, the norm for LIBOR has traditionally been about 5 or 6% and was approximately 25% at December 31, 2008 and is about 23% today. A drop in LIBOR obviously lowers our income on our floating rate loans without floors.

The small loan market, which we invest most of our capital is not in much competition or activity from banks. Many banks have tightened up their credit standards. We normally compete with other BDCs, private lenders, like the mezzanine loan funds, a few hedge funds, and some of the small business investment companies out there.

Again, our loan request pipeline is strong and if we can access capital and get comfortable with the risk in the economic cycle, it may materialize into more new investments as the year proceeds. We’ll just have to wait and see. Our goal, again, is to be a strong, profitable company, not necessarily the biggest company. And with that I will turn the presentation back to David.

David Gladstone

Thanks Jim. That was a good report. Now let’s take a look at the financials. For that, we’ll hear from Gresford Gray, our Chief Financial Officer. Gresford, go ahead.

Gresford Gray

Thanks David. We’ll begin with the balance sheet. Our balance sheet continues to remain strong and at the end of the December quarter we had approximately $403 million in assets consisting of 385 million in investments and fair value and 18 million in cash and other assets.

We had about $146 million borrowed on a line of credit and about 254 million in net assets. So we are less than one-to-one leverage. This is a very conservative balance sheet for a company like ours and we believe that our overall risk profile is low.

For the December quarter, net investment income, which is before appreciation, depreciation, gains, or losses, was about $5.9 million versus $7.3 million for the same quarter last year, a decrease of about 20%.

The decrease in net investment income was primarily due to the lower transactions credited against our base management team and occurred in connection with some amendments we made to our creditability. Note that we’ve also seen LIBOR fall and for our syndicated loans, that has hurt our earnings as well. As rates go back up, we expect that our income will also increase, all other things being equal.

On a first-share basis, net investment income for the quarter, was $0.28 per share as compared to $0.43 for the same quarter last year. This was a first share decrease of about 35% due to the dilution from share issuances during the year, or in other words, an additional six-and-a-half million rated average shares outstanding as compared to the same shares last year. Some of this decline should be removed as the money from our last public offering is put to work.

As all of you know, net investment income is the most important number to us because it is the number that is closest to our taxable income, and that taxable income is the income that we compare to everything.

Now, let’s turn to unrealized and realized gains and losses. This is a mixture of appreciation, depreciation, gains, and losses. We’d like to talk about two categories in this section: first, gains and losses because they are cash items, and second we talk about appreciation and depreciation, which are noncash items.

For the quarter ending December, we had a net realized loss of about $1.7 million primarily from the sale of the syndicated loans and net unrealized appreciation of approximately $13.3 million, which is noncash and comes from the value based on our portfolio. Although our aggregate investment portfolio has depreciated, our entire portfolio is fair valued at 85% of cost as of December 31, 2008.

The unrealized appreciation of our investments does not have an impact on our current ability to pay distribution to stockholders. As explained in our 10-Q filed yesterday, we made a change in our valuation procedure to value our syndicated loans using a discounted cash flow method versus relying on third party indicative bids.

Given the continued economic downturn, during the quarter-ended December 31st, the market for syndicated loans became increasingly liquid with limited or no transactions for those securities which we hold. Recent accounting guidance was issued in September of ’08, specifically FSP 157-3, which provides guidance on determining the fair value of an asset when the market for that asset is not active.

The guidance noted that in the current economic arena, there may be indications in the liquid market that may include three factors. The first is a significant decline in the volume and level of trading activity in net assets. The second, pricing quotes have varied significantly over time or among market participants. Or the third factor, prices that are not current. The market place from which we historically obtain indicative bids for purposes of determining fair value for our syndicated loan investments shows these attributes of the liquidity.

Historically, our valuation procedure specifies the use of third party indicative quotes of valuated syndicated loans whether it’s a liquid public market for those loans and market pricing quotes are readily available. When there was an active market, the use of these agent best, nonbinding, indicative bid quotes seemed to be appropriate and acceptable in accordance with our 157.

However, due to the market’s illiquidity and the lack of transactions during the quarter ended December 31st, we determined that the current non-binding indicative bids for our syndicated loans were not based on transactions within an active or liquid market and could not be relied upon.

And alternative procedures would need to be performed until liquidity returns to the marketplace. As such, we have valued our syndicated loans using a discounted cash flow method for the quarter ended December 31, 2008.

Now, let’s turn to net increase or decrease in net assets resulting from operations. This turn is a combination of net investment incomes, appreciation, depreciation, gains, and losses. Please note that we are talking about weighted average, fully diluted common shares when we use the foreseen numbers. This is the most conservative way of stating earnings per share. For the December quarter, we have a net decrease in net assets resulting from operations of about $9.1 versus a net increase of about $1.9 million last year this time.

This December quarter, we are at -$0.43 per share versus last year at a +11 points per share. The change is primarily due to a greater amount of net unrealized appreciation from our non-controlled in the period investments and the dilution of the common shares from the shelf offerings last year.

While we believe the overall investment portfolio is stable and continues to meet expectation, with the continued uncertainty in the current economy and credit markets, investors should expect continued volatility in the aggregate value of the portfolio. And now I’ll turn the program back over to David.

David Gladstone

Thank you, Gresford.


Ladies and gentlemen, thank you for your patience. Your conference call will resume momentarily.

David Gladstone

Thank you, Gresford. That was a very good presentation. I don’t know. We had a glitch in the phone and I’m sorry about that. I hope each of you that are listening in will read our press releases and also obtain a copy of our quarterly report called the 10-Q which has been filed with the SEC and can be accessed on our website at and also on the SEC website.

As Gresford discussed, we had to change our valuation technique because the market for senior syndicated loans is judged to be inactive and the inactive bids that we were getting from the loan arrangers were not based on actual buying and selling of syndicated loans. It seems it ought to be more like guesses rather than bids.

The volume of sales and new issues had almost come to a stop except for a few fire sale transactions and many of the loans that we had purchased in participations are in small loans that have four to eight lenders in the securities. So they just don’t trade at all.

And there is no one bidder for these small of loans. Let me say again, the indicative bids we did get for our syndicated loans were based on prices that came from a market that we described as simply very limited volume and in some cases totally inactive.

Some of the sales that did occur in the larger loans can only be described as a fire sale and really not an orderly sale. And an orderly sale is what is described by the accounting guidelines and by the publications of the SEC with regard to fair value.

With the enactment of FSP 157-3, which Gresford talked about by the accounting profession, we now have the ability to look at the value of the loans using other methodologies. And one of those methodologies that we selected are discounted cash flows. And that comes to an orderly sale value we believe.

This relief on the fair value is the first step in what I hope will be a full review of using things like the value of numbers that come out of inactive markets based on determining fair value. We need some relief in this area.

On another subject, our biggest worry today is the debt marketplace for our funds as well as for our portfolio companies. We are worried about the bank’s ability to provide our line of credit and for banks to provide lines of credit to our portfolio companies. We are just hoping that conditions improve by the time we have to renew the line again in May that things will be different.

We have talked to our lenders. They are working on extending our line of credit. We do believe they will renew the line of credit. Obviously they will charge a higher rate and probably be more restrictive and that would be right in line with everyone else that’s out there today getting their lines of credit renewed. We’ll just have to wait and see what will happen over the next three months as we work with our lending institutions and get our line of credit in place.

We also worry a lot about the credit marketplace and how they’ll impact our portfolio companies. There are a fair number of regional banks now that are making new loans based on the assets of the business. These are what we call asset based lenders.

And these asset based lenders are much more plentiful than they were last quarter. And I think this is hope that the credit markets are freeing up for the short-term asset-based loans. This is the first good sign that I have seen and it’s usually the first sign of a change in the loan marketplace. So we’re beginning to pick up a little optimism there.

We worry that oil prices will go back up. That is a great benefit today, the lower oil prices, but it is a worry that they’ll go back up. We’re not currently worried about inflation, but it’s our next worry. I fear that it will be our primary concern come 2010.

The amount of money being spent on the war in Iraq and Afghanistan is certainly hurting the economy, but I just want you all to know that the teams here at your company support our troops in Iraq and Afghanistan. They are the true heroes in this period of history. They risk their lives for us and we hope they all come home safe.

Even worse than the war spending is the pork barrel spending by federal, state, and local governments. I believe they are just out of control. I hope the new administration can cut some of the pork barrel spending, but looking at the so-called “stimulus package” that’s being proposed now, they’re filling that spending package with goodies for many of the supporters of the new administration and the congressional delegation.

The stimulus spending is dislocating a lot of the markets. I’m not sure how this will turn out. It looks like we are partly nationalizing a lot of the banks and insurance companies and auto businesses. And if we’re going to go back to capitalism overtime, these partially nationalized businesses are going to have to raise a lot of equity to take out the government’s preferred stocks.

All the spending from these stimulus packages and these TARP programs will mean more taxes for our citizens. And I just don’t know how much more taxes people can tolerate. It will cause much more dislocation in the economy and there are many in Congress that call for increased taxes on the so-called rich. The definition of rich continues to go further and further down and include more and more of the middle class. And to me this is clearly socialism in the making.

The trade deficit in China continues to be just terrible. China continues to subsidize their industries to the disadvantages of our businesses. They subsidize their oil prices substantially. Gas prices are lower there due to the government subsidy. On the other hand, we tax our gas prices here and make them higher. So we have a tremendous disadvantage just on oil and gas alone.

The downturn in housing industry is related to the disaster in home mortgage defaults. All of this is going to continue to hurt our economy. No one knows how many home mortgages are going to fail, but we had originally thought it might be upwards of 400 billion.

There now seems to be some estimates to put the number much higher. This is the main cause of the recession today. The housing problem will likely turn around this year because housing prices have fallen so much, they’ve come back into line.

They’ve made a lot more people qualified buyers and if the stimulus package cuts mortgage rates as they talk about to 4%, then housing sales will turn positive. Already, many of the mortgage brokers are seeing a steady stream of requests for refinancing, so there is movement going on in the housing business.

In spite of all these negatives that we talk about, the industrial base of the US is certainly not in a depression. The thing that is hurting the economy is the lack of banks lending money to companies for long-term need.

The short-term needs as I discussed for these loans or asset-based lenders, they are available. However, most of the banks have just about stopped making long-term loans. This is just like it happened in 1989, 90, 91, except in this case, the federal government is buying stock in banks rather than taking them over and liquidating them. I wish the government would buy some preferred stock in our fund.

We would lend it out to our small businesses. We tried to apply for the TARP money and the bailout bill and we were told it’s just for banks and insurance companies and auto manufactures.

We’re guessing that the downturn that began to start in 2008 will continue at least the first half of 2009. We think this market is stabilizing now. We’ll begin to see a turn-up in the next two quarters. If that’s true, it will be a really great time for us if this is the turnaround.

Also please know there’s a very large amount of money sitting on the sidelines. When that comes back into the marketplace, it will explode on the upside. I think some of that money will come to our stock and when banks delevere—think about this—they’re paying off some of their debt.

And that means the debt holder has received cash and now has cash to invest. And there are billions of dollars, not only on the sidelines there, but in money market funds that will be freed up for investment in stocks and bonds.

As far as our distribution to shareholders, we held it at $0.14 per share even though we certainly didn’t earn that, probably won’t earn it for January, February, and March. If you annualize that payout, it’s $1.68 per share. We are working on some changes here internally that I hope will help us build our earnings and earn our payout. At this point we have to pay some return of capital in order to maintain the payout. If rates go back up, we certainly will be able to cover the payout with ordinary income.

At this distribution rate, that is the $0.14 per month per share and with the stock price at $9.95 as it closed yesterday, the yield on the distribution is now very, very high. We, quite frankly, can’t understand why it’s fallen so much, but we expect our portfolio to remain solid and allow us to keep paying our distributions and the stock trading. It’s trading today at about an 18% discount in NAV. It’s a real bargain in my estimation.

And before I forget, we have a shareholders meeting coming up in about two weeks on February 19th. You’re all invited obviously. And we need help of all of our shareholders in passing one of the items in the proxy. We are asking shareholders as we did in Gladstone Investment, our other company, to give us permission to sell stock below net asset value if the opportunity arises. That is if we need it.

We need this flexibility and hope that you’ll vote on this item in favor of it. The ISS, the people who monitor this, came out in favor of it. We filed and mailed the proxy to you, so you should all have your proxy statement and you can vote your proxy in four ways.

First of all, you can take the proxy and sign it up and send it in. You can vote by contacting George Asunzay, our proxy solicitor. And their telephone number is 800-932-9864. Please have your proxy card handy because you need that proxy number in order to vote over the telephone. Again, the telephone number is 800-932-9864.

You also can use the same proxy number and go to the internet and go online there at, and vote your proxy number that way.

And, you can also call your stock broker and your broker can help you get the vote in. But, we do need your vote. Please, vote your proxy. It costs us a fortune to gather these votes each year. So, help us cut down on the cost by voting early, so we don’t have to call you and beg you to vote, as George often does. I’m sorry some of you have gotten phone calls, probably at the dinner table at night, asking you to vote.

Please go to our website, sign up for some email notifications. We don’t send out junk mail, just news about the company. And again, as far as we can see, conditions look okay. It’s not great. We think the economy is reaching a bottom. We’ll start to gain some strength soon, we think. But, we can only see a couple of quarters out, so we want to be careful. That’s why we are not putting a lot of money to work until we can see the turn in the economy.

We are stewards of your money and we’ll stay the course, and continue to be conservative in our investment approach. And with that, quality, if you’ll come back on, let’s open up the lines for analysts and shareholders, who want to ask some questions.

Question-and-Answer Session


Thank you. Ladies and Gentlemen, we will be conducting the question and answer session. (Operator instructions). Our first question is coming from Greg Mason, with Stifel, Nicolaus. Please state your question.

Greg Mason – Stifel Nicolaus & Company, Inc.

Hi. Good morning, David. If you could talk a little bit about the gap between your NOI and dividend and how you’re funding that today. And what do you think about the new IRS guidelines that could allow the dividend to be paid, in fact, using stocks to cover that gap?

David Gladstone

Thank you, Greg for asking that. We are studying that proposal by the IRS and we’ll look at that. Our board has asked us to put together a memo and some folks here in the office are putting together that memo, so that we can provide it to the board, and perhaps we’ll use it.

I just don’t know. It’s too early to say on that part. The main reason we’ve gone down in our ability to pay the dividend has been the fact, first of all, that we’ve had some variable rate loans. And as you know, the variable rates that are tied to LIBOR are really, very low today because LIBOR is real low. We didn’t have floors on some percentage of our loans.

Another reason is that because we’ve been so weary and wary of the economy, we just held back from putting new deals on the books. And each time we put a deal on the books, we normally get a 1% or 2% fee. And that fee goes to pay down the fee that we charge the company. So, the company has not been getting that benefit because there has been no fees charged because we haven’t closed loans.

If we go back to closing loans and charging 1% to 2%, as most people are doing today, that money would roll in, as well, and help pump up the earnings. But, at this point, obviously, it can’t go forever and borrow the money that we pay out of the dividends. We don’t want to do that for a long period. But, we don’t mind doing it for short stretches, if we think things are going to turn around. So, those are the things that we are looking at today. Do you have another question, Greg?

Greg Mason – Stifel Nicolaus & Company, Inc.

Yes, one more and then I’ll hop back in the cue. On those last lines, you know, if we look at what Deutsche Bank did with the gain line and limit it down to what you had borrowed when it came up for renewal, do you foresee, potentially, the same thing happening? And if that occurs, how is that going to impact your ability to borrow to fund the gap dividend shortfall and make new investments?

David Gladstone

Yes, the new investments are being driven right now by the fact that we’re so upset about the economy and not being able to figure out which companies will do well and which won’t. So, we’ve concentrated on making sure that our portfolio remains strong. So, that’s been the main driver of why we’ve not put money on the books. We do have a very large line of credit.

I would expect, as the line credit could come down by some amount. I don’t think it will be as much in this company as it was in gains of our other fund by some investments, simply because we have three lenders in this. And two of the lenders are quite desirous of continuing the line of credit and have been very supportive. One has been a little less likely to want to continue.

So, we’ve been working that and I’m hopeful, in the next three months, we’ll have that ironed out. We’ve already had a couple of meetings with some of the lenders and began down that road. And I’m hopeful that maybe even earlier than in May, when this line comes up, we might have an announcement of very positive that we have our line of credit in place and we’ll go for another year.

But, right now, I would expect the line to drop by some small amount. Not a huge amount. And I would expect it to have some room in there for new loans, if we want to do them. Right now, we’re not very excited about doing the new loans.

It’s also to note, Greg, that we do have a substantial amount of senior syndicated loans. While the marketplace is not great today, if we wanted to sell them, we could probably find some people to buy a few of the loans at some very discounted prices, in order to do the next deal. We just don’t feel good about doing that yet because we don’t like the way the economy is and the way the marketplace is pricing those loans. You have another question?

Greg Mason – Stifel Nicolaus & Company, Inc.

I’ll hop back out and let other people ask and come back, thank you.

David Gladstone

Okay. Claudia, next question.


Our next question is coming from Vernon Plack with BB&T Capital Markets. Please state your question.

Vernon Plack –BB&T Capital Markets

Thanks, and David I was curious in terms on how close you were at the end of the quarter on your- the minimum net worth covenant on your revolver.

David Gladstone

Oh, I don’t know. Gresford, how close were we? What was the difference between, how far did we miss it? About $2 million.

Vernon Plack –BB&T Capital Markets

Okay, thanks. And other than growing the portfolio, this is tied to the previous question, what can you do other than grow the portfolio in order to close the gap between NOI and the dividends? Are there some other things that you’re thinking about?

Chip Stelljes

Hi Vernon, it’s Chip Stelljes, we have, across the company, probably 60 active projects going on, probably 30 of which are tied to Gladstone Capital. And I would tell you that we are actively looking at every single company and saying, let’s get out of the lower yielding INGER (ph) loans and revolvers and get them over to the assets based lenders that David discussed.

We did go as an order to facilitate the closing of those transactions but obviously, we don’t make much money on it. The revolvers pick up room on our line of credit, with our lenders, and so if we can get out of those positions and move them over in a refinance mode, we don’t take losses and yet we get a higher yielding portfolio. So, we’re actively looking at recycling money that we do get, continuing to deleverage, but the same time, get in the higher yielding pieces of paper and stay out of the lower yielding ones.

David Gladstone

Vernon, go ahead. Do you have another question?

Vernon Plack –BB&T Capital Markets

No, that was it. Thank you David. Thank you Chip.

David Gladstone

Alright. Next question, Claudia.


I’m showing we have no further questions, at this time. And let me give another reminder, (Operator instructions). And it looks like we do have a follow up coming from Greg Mason with Stifel, Nicolaus. Please, state your question.

Greg Mason – Stifel Nicolaus & Company, Inc.

Can you talk about, as we went through the cue looking at your fees, it looks like your advisory fees fell to virtually zero this quarter and they had been running about $400,000 a quarter. What’s the cause behind that? Are portfolio companies not paying advisory fees right now?

David Gladstone

I’m just trying to see what you are looking at because we did get our loan servicing fee and our base management fee and - oh, advisory fees? Well, advisory fees are typically paid from — what are you looking at? Greg, which line are you looking at?

Greg Mason – Stifel Nicolaus & Company, Inc.

Yes, so when you refund fees.

David Gladstone

Oh, sorry, that’s down at the bottom, yes. I know what you mean, now. You mean the advisory fee went from 2.3 to 1.2. And that again, is when we do a transaction, the fee that we charge is an investment banking fee or something like that.

That fee comes into the management company and then gets credited back. And the reason we do that is because the work has been done by the management company and so it charges the fee, but then credits it back to the portfolio company. And when you don’t have a lot of closings, as result of not a lot of closings and not a lot of fees coming in, that’s why it went down.

Greg Mason – Stifel Nicolaus & Company, Inc.

Okay, and then you talked about.

Chip Stelljes

You have your three loans on non-accrual, but you talked about two other problem loans. Can you discuss those? Or discuss the magnitude, at least, or size of those other two problem loans.

Chip Stelljes

Well, all five of them are 12.6 million, so —

David Gladstone

The two additional loans are approximately 150 days past due. One of those, we are very close to being, pitting control of. We think there is value in both loans. Plus, they are not paying interest as a read, and we’ll, you know, be on our list next time of non-accruals. But, again, all five loans are 12.6 million.

Greg Mason – Stifel Nicolaus & Company, Inc.

Okay. And then, you mentioned that you are trying to get approval to issue stock below book and that there’s a strong pipeline if you had the capital. If you look at, you know, your dividend yield today, nearly 17%, are you able to find new investments today that would be accretive if you raised capital at these levels?

David Gladstone

We aren’t going to raise capital at these levels unless it was just some kind of sheer emergency. Again, that’s why we’re talking about flexibility. However, if we went back up to something close to book value and we wanted to have some shares issued, not that we are planning any, but if we did, and during the road show or the three day whatever, we would have the price drop down a nickel under net asset value, we wouldn’t be able to have the issue without this permission from shareholders.

And the permission is only for a year. And it has to be approved by our independent directors, as well, each time. So, again, I hope everyone out there will give us the vote of confidence on this and let us go forward on it.

I did want to add, and Greg, let me just jump on one thing that Vernon asked about and finish up. We did apply for an FDIC license in this company. We are hopeful that the SBA will grant us the license. We’re going through that process now. It seems to be on a positive track. No guarantees, but we’ve all run, as you probably know, I’ve run four FDICs before, so we think we have a good reputation at the SBA and we’ll get a license.

But the new stimulus package does have one thing for FDICs, in that you can borrow more money from the government than you could in the past. So, you can borrow up to $150 million through the SBA, not that we would be able to get all of that money right away.

And the nice thing about that $150 million is that it doesn’t count in your tenth of 1:1 for the PEC test and so, business development companies have. And so, as a result, it’s like having a freebie, in that regards. And that would be another way, Vernon, for example, in Vernon’s question, of how we could build the income of the company.

And sorry to do that to you, Greg, but I just wanted to make sure I got that in before we hang up. Did you have another question, Greg?

Greg Mason – Stifel Nicolaus & Company, Inc.

One more, we agree completely that your thoughts about raising capital at these levels, but you want to have the flexibility. Would you also agree that issuing stocks for a dividend, at these levels, would be just as diluted to the shareholders?

David Gladstone

It would be, except, you are diluting everybody and not bringing new people in. So, everybody gets the same dilution. It’s like a stock dividend, so it’s a little bit different, but you’re right, it’s very diluted.

Greg Mason – Stifel Nicolaus & Company, Inc.

Right, from an ownership perspective, but clearly the next quarter you have that many new shares to pay the dividend on.

David Gladstone

We agree with your analysis.

Greg Mason – Stifel Nicolaus & Company, Inc.

Great, okay. Thank you David.

David Gladstone

Now, do we have anymore, Claudia?


Yes, we have a follow up coming from Vernon Plack, with BB&T Capital. Please, state you question.

Vernon Plack –BB&T Capital Markets

David, you must have been reading my mind because actually, I was going to follow up on the whole SPIC issue and you addressed it, so thanks very much.

David Gladstone

Okay, Vernon. Anybody else out there have a question?


Yes, we do have one question coming from Fred Muffler, with MMA Realty (ph). Please state your question.

[Fred Muffler - MMA Realty]

Yes, hi,. I’m involved in the new investments area and, I’ve been listening to a lot of great financial talk this morning. And I realize that the market is terrible, but I think it is a good market to at least pay some attention to a new investment area. You had mentioned, Mr. Gladstone, that you can not figure out which ones are best, you know?

And maybe if you would reach down to some of the other areas, you might, you might learn a lot. For example, your company bought Danco, I think through Boen Capital about a few years ago. We were influential in that, and I happen to know that situation very well. They do a lot of work for intuitive surgical, a large growing robot manufacturer, you probably all know about.

The big opportunities there, for synergies, for them to acquire a plastic company right now, and I think if you look at- if you look at those synergies and you look at Danco’s earnings, which have to be about the best of any of the companies that are out there, you might see that the 10 million in new loans that might be made, at that point, might yield two or three years down the line tremendous, tremendous results.

I realize it might be hard to get the 10 million, but what I’m suggesting is that by looking at the transaction and getting our heads out of the sand, we might really, may really find some- some golden eggs, so to speak.

Chip Stelljes

Hi, Fred. This is Chip Stelljes. We know Danco very well. Danco is actually a Gladstone Investment Portfolio Company, not a Gladstone Capital Portfolio Company.

[Fred Muffler - MMA Realty]

Oh, okay.

Chip Stelljes

And we’re in daily – we’re in weekly contact with Boen Capital. We’re very close to the company’s projections and where they think they’re going to go with that customer. I don’t want to speak anymore on a portfolio company, especially one that’s not part of this company. But, we are well aware of the opportunities there and the situation.

[Fred Muffler - MMA Realty]

Glad to hear that. I didn’t realize it wasn’t the same company.

David Gladstone

Okay. Do we have any other questions?


No, we have no further questions, at this time.

David Gladstone

All right. Well, since we have no questions, again, thank you all for calling in and being part of this conference, and we’ll see you next quarter. That’s the end of this conference.


Ladies and Gentlemen, this does conclude today’s teleconference. (Operator instructions)

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