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Executives

Malon Wilkus - Chairman & Chief Executive Officer

John Erickson - President, Structured Finance & Chief Financial Officer

Rich Konzmann - Senior Vice President of Accounting

Amanda Cuthbertson - Investor Relations

Analysts

Vernon Plack - BB&T Capital Markets

Sanjay Sakhrani - KBW

Greg Mason - Stifel Nicolaus

Matthew Howlett - Fox-Pitt Kelton

Simon Newson - Julius Baer

Faye Elliott - Bank of America

Scott Valentine - FBR Capital Markets

Jeffrey Talbert - Wesley Capital

John Neff - William Blair

Larry Ring - Dwight Asset Management

Scott Ozer - Financial West Group

American Capital Ltd. (ACAS) Q1 2009 Earnings Call May 6, 2009 11:00 AM ET

Operator

Welcome to the American Capital shareholders conference call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session. Instructions will be given at that time. (Operator Instructions)

I would now like to turn the conference over to your host Amanda Cuthbertson. Please go ahead.

Amanda Cuthbertson

Thanks Greg, and thank you all for joining American Capital’s first quarter 2009 earnings conference call. Before we begin, I’d like to review the Safe Harbor statement. This conference call and corresponding slide presentation contains statements that to the extent they are not recitations of historical facts, constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.

All such forward-looking statements are intended to be subject to the Safe Harbor protection provided by the Reform Act. Actual outcomes and results could differ materially from those forecast due to the impact of many factors beyond the control of American Capital.

All forward-looking statements included in this presentation are made only as of the date of this presentation and are subject to change without note of. Certain factors that could cause actual results to differ materially from those contained in the forward-looking statements are included in our periodic reports filed with the SEC. Copies are available on the SEC’s website at www.sec.gov and we disclaim any obligation to update our forward-looking statements unless required by law.

An archive of this presentation will be available on our website and the telephone recording can be accessed through May 20th by dialing 800-475-6701. The replay passcode is 996586.

Unfortunately, we have a little bit of a technical difficultly this morning with our webcast capability. So if you are having issues accessing our webcast, please close down your internet browser and reopen. Go to www.americancapital.com and to view the Q1 slide presentation, click on the Q1 2009 earnings presentation link in the upper right corner of our website. Select the streaming slide presentation link to view the slide while by listening by phone or the webcast option if you want slides and the audio. If you have any trouble with the webcast during the presentation, please hit F5 to refresh or close down your internet browser and reopen and try to go in again.

Participating on today’s call are Malon Wilkus, Chairman and CEO, John Erickson, CFO, Steve Burge, President, North American Private Finance, Ira Wagner, President, European Private Finance, Gordon O’Brien, President, Specialty Finance and Operations and Sam Flax, General Counsel and Rich Konzmann, SVP of Accounting and with that, I will turn the call over to Malon Wilkus.

Malon Wilkus

Thank you, Amanda and thanks everyone for joining. I will reiterate what Amanda said that, if you are having trouble seeing the presentation, I know I had to close down my internet browser and reopen it to be able to see the Q1 presentation.

So I hope everyone, is able to launch that. If not of course, we can help you after the call to get to the presentation. Folks, for our first quarter we had $0.31 net operating income, which was a 48% increase from Q4, 2008 and when you adjust out stock-based compensation, it was $0.39. We had a $0.27 realized loss per diluted share, and our earnings were in this case, a loss of $2.65; obviously, substantially due to $492 million of net unrealized GAAP depreciation.

FAS 157-4, though we initially had high hopes for the changes that were initially proposed for FAS 157-4, despite a lot of efforts from a number of BDCs in the end, it has had no effect on our fair value accounting. So, that was a disappointment, but of course we’ll continue to report our unrealized or I should say, we will continue to report our realizable value, which you can see with respect to our net asset value is $17.7 versus the $12.32 that results in our GAAP fair value and you’re welcome to take a look at the different definition of realizable value versus GAAP fair value, and I think we have that on slide 31.

Turning to slide five; I think everyone wants to know about the status of our debt facilities. Well, we do have, just to remind everyone, $4.4 billion of total debt outstanding, and we are continuing to be in default of $2.3 billion of unsecured debt. We are indeed incurring higher interest costs due to default and rating downgrade provisions, and that commenced in March of 2009. So, therefore you will see that more in our second quarter numbers than in the first quarter.

Our interest coverage in Q1 was 2.2 times and we have retained Miller Buckfire LLC as a restructuring advisor. They are one of the leading restructuring advisors and they’ve already been very helpful in the process. The financial, I should say the three sets of unsecured creditors have also engaged financial and legal advisors according to our agreements those are engaged with our expense. So you will see those expenses flowing most probably starting in the second quarter.

Our discussions with our three creditor groups are ongoing, it’s been a slower process and I think anyone had really anticipated. Some of these legal and financial advisors were only recently retained by the creditor groups, but we are very focused on the discussions through creditor groups are generally speaking firms that we have worked with for many, many years, and I know that all of us, I think are sharing the view that we would like to get to a satisfactory resolution of our default of our various defaults.

Finally, I should say, we’ve reduced debt since the second quarter of 2007 by $994 million and in the first quarter, we’ve reduced $51 million. I’m sure there would be questions about our debt status, but let me just turn to slide six and we’ll take those questions later.

With respect to our portfolio, and I think many of know, it’s my view that our future and really confirms of our [client]. All depended on the quality of our portfolio and just to review some of the statistics that we had $6.8 billion of investments based on our GAAP fair values and there is about $1.1 billion more than that on a realizable value basis.

The assets are yielding 9.5% this is on the debt assets, the debt investments and we reaped a $195 million of revenues from the portfolio in the first quarter. We do have 4.4% of our loans on non-accrual that’s based at fair value and that’s a 150 basis points increase over the fourth quarter of ‘08 that totals $214 million or $4.9 billion of total loans at fair value.

We, I think one measure of the kind of risk profile of our portfolio is, how much debt our portfolio has and you even look at individual companies, but in the aggregate the Average Mean Net Debt to EBITDA is 4.2 times. The Average Maximum is 5.3 times and I know this a little confusing, so we put a little chart on this slide six over in the right-hand corner and what we mean by the average maximum and that’s the number, to the most part, we’ve been reporting over the years is 5.3, but keep in mind, that’s really representing the last dollar of exposure or I should say, the first dollar of exposure.

Since we invest up and down the capital structure, I think it could perhaps be more meaningful to evaluate what the mean exposure that we have in portfolio companies with respect to our debt, and that’s at 4.2 times EBITDA and then finally, our portfolio has overall, on weighted average basis, a 2 times average interest coverage ratio.

Turning to slide seven, you can see what I’ve just mentioned in the lower right hand corner, the non-accruing loans; at fair value is 4.4%. I would also mention that the past due loans at face value totals $41 million.

If you turn to slide 8, you can see that the 4.4% in the lower right corner, the first quarter of ‘09, the blue line, that equates similarly to the 4.9% of past due and non-accruing loans at fair value at Q1, 2002, really at the height of the recession in that timeframe. We were of course not pleased with that result, but we also think it’s consistent with how we experienced the last recession and probably there is no doubt a more severe recession than 2001 and 2002.

We think the 4.4% is performing reasonably well. Of course we don’t know where this line goes from here, but if you look at the last recession, it did peak and declined very rapidly and we would hope to be able to achieve something similar to that. But of course we will all see how the economy develops.

Turning to slide nine, again focusing on our portfolio, you can see here that the gold bars represents the total return on the investments in each of the years presented here and over on the right hand side, you can see the total 11 year performance record of our portfolio as 7%. When you only focus on the exits, it’s a 16% return.

I think some people have interpreted that as somehow we exit our good companies to keep our bad companies, but that’s certainly not the case. We are always having exits where we are experiencing losses, because of failed investments, its part and parcel of our business and in the first quarter, we certainly experienced that as well.

We believe we keep a very clean portfolio in respect of exiting our troubled companies and the reason however, that you see a higher return on exits that you see in the overall portfolio is because we could be a patient investor and wait till the right time to exit portfolio companies, and I think we have a great track record of that.

If you look at the 2006, 2007, 2008 investments and the overall returns there, which is an 8% and minus 2% and minus 3%, I believe those are some of the best performing assets that I know of, I believe that virtually everyone who made investments, it went long in investments in those years. Probably preferred they had not made those investments, which ever asset class they were in because there were huge declines in asset values.

So I look at our performance and believe that we actually are outperforming most asset classes in terms of how the assets are performing and so, during the heights of the worse recessions since the great depression, if you can invest one year before that recession in 2007 and or at the beginning of the recession in 2007, and be at a negative 2% return on a realizable value basis. I believe that should be viewed as a great success and in the 2006 investments and an 8% IRR again, I think that’s showing outstanding set of assets.

Nonetheless, we do have losses in the prior slide, indicated that there are certainly troubles in the portfolio. But then again, I do want to remind people that the portfolio produced $195 million in revenues in the first quarter of ‘09. Now, a good example of what I am describing is our recent exit of Piper Aircraft, which occurred last Friday. It was doing very well and was on the verge of being sold, when 9/11 occurred, and the terrorist attacks of 9/11, and the general aviation was grounded.

We of course went into a recession, and Piper was severely damaged. Not only was there the grounding for a period of time of general aviation, but there was a problem with their engine that had resulted in some recalls and then, the company was faced literally with three hurricanes that hit it one after the next, causing extensive damage and so Piper was struggling.

American Capital put in its operations team to work on the company in a tremendous fashion; both operations was involved to re-establish it’s business plan, there was a change in management. We were able to buy out the senior debt at a major discount and became the 95% shareholder, the controlling shareholder of Piper.

Nonetheless, there were extensive problems certainly with the hurricane, the recession, the 9/11 and so forth and at one point we had valued our investments in Piper at $0.50 on the dollar. Nonetheless, we stuck to it. We devoted probably more different people to Piper to turn it around and fix it than perhaps any other of our investments and the net result is that we did indeed turn it around, we’ve hired great management, the company started to flourish.

It launched the development of a new ultra light jet, which is proceeding well and got the support of the state and local governments, and it did a remarkable job of turning around, I think with a great deal of our help and we sold it last week, at a wonderful gain and I believe it’s a 19% IRR and if I have it slightly off, just someone can correct me.

We’re extremely pleased with the end result of all of our long and hard work and we have absolutely no doubt that there are many companies on our portfolios today that are depreciated in value that will experience the same result and there’s been tremendous speculation as to whether or not we will somehow have to sell our assets at discount to resolve our current defaulted situation.

I can tell you that I don’t believe that is the desire or the interest of our creditors and I certainly know that it is not in the interest of our shareholders to do that. We have looked at our defaulted situation as carefully as we possibly can, to evaluate whether we would be compelled to sell assets at discount, so as to resolve our defaults.

We don’t believe that is in our future. We believe that we can continue to be a patient investor and exit only when we can achieve outstanding values for good companies and of course, when we have troubles, we have a failed investment, we will exit those probably, no doubt at discount to our cost but not at a discount to fair value.

I’ve spent a fair amount of time on this subject, but I just want to emphasize that in the fourth quarter of last year and in the first quarter of this year, when the M&A market has declined so severely and in terms of volume, and multiples have also declined, we continue to exit only when we could achieve outstanding returns, with respect to our well performing companies.

We have pulled half a dozen companies, off the market because buyers were expecting to receive a discount. Whether it’s because we were one of the few sellers in a terrible market or whether they perceived us as in need of liquidity. Nonetheless, we pulled those off market. We don’t intend to sell them until the market turns them around and we can reap the proper values for our investments.

Let me turn now to slide 10 and we’re happy to go back to that topic in our Q&A. At the lower right hand corner of slide 10 you can see that our interest to EBITDA is at 2.2 times for the first quarter.

Slide 11, I would like to talk about the dividends. We are still forecasting and reiterating our forecast at $300 million of dividends to be declared by June 15 and paid by September 30th. I should also point out that there has been a recent IRS ruling that temporarily permits up to 90% of our dividends to be paid in stock, and our Board, we have an independent Board, will announce allocation of the dividend between cash and stock at the time of the declaration of the dividend, which should be prior to June 15th.

Slide 12, as you all know, we used 11.5 million shares of American Capital stock to purchase the remaining 32% interest in European Capital that we did not already own and just to give you some sense of the result of that, European Capital at March 31 had about $0.5 billion of net asset value.

Our equity investment in European Capital is valued at $0.1 billion. We had thought that we may value at its net asset value or the $0.5 billion level, but due to covenant defaults of their credit facilities, at European Capital we were really prevented from using the NAV as our valuation metric, and that’s because it’s possible because of the credit defaults that they won’t be able to achieve their net asset values.

We have engaged Miller Buckfire at European Capital as well, to assist in restructuring. Once again, they’re being very, very helpful and we’ve also engaged Citigroup Global Markets to explore strategic alternatives for European Capital and once again, we’re looking very carefully at what our alternatives are and we would hope only to execute transactions that achieve the proper valuations in our view.

Turning to slide 13, we do have our annual proxy statement outstanding, and we have a June 11th meeting scheduled with our shareholders. In that proxy, we have a proposal for the Board to be gaining the authority from our shareholders for doing one and more reverse stock splits. That would provide the board, the flexibility to act quickly in response to NASDAQ listing requirements that may develop.

As you know, there is an arbitrary $1 listing requirement that NASDAQ has. Currently, it’s actually lifted and then differed, because there are so many companies that are trading below $1. We don’t have any control over what NASDAQ does with respect to that arbitrary requirement, but we want to always make sure that our stock is trading above that level for the proper period of time to continue to be properly listed under NASDAQ.

Of course our Boards reserves are right not to implement any reverse stock split and we have no interest in doing it for any reason other than the NASDAQ listing requirement. We are authorized or our authorization would or the Board’s authorization would expire at the 2010 Annual Meeting and the reverse stock split would automatically reduce existing authority to sell share below NAV that we currently have.

The SEC approval will be required to adjust the strike price of our options and the number of shares for which the options would be exercised and we hope to receive that approval from the SEC. So, there is no intentions of this reverse stock spilt having any other effect than to allow us to continue to be listed under NASDAQ under any circumstances that may develop.

Also, our proxy is requesting an approval for a 2009 stock option plan. We believe that’s important to retain our employee base and to motivate them properly and to continue to have their alignment with our shareholders.

As you all know, in fact on the next slide 14, let me discuss a little bit about our current option values and our compensation at American Capital. I know this has been a hot topic for companies around the country, as to whether or not the management and the Board of companies are recognizing the pain that shareholders have been suffering.

American Capital has suffered terrible pain and that not only has the stock declined dramatically from the past, but we have also deferred our dividends with respect to the fourth quarter and the first quarter and are going to be paying the one month dividend and even in that case, the dividend may not be paid entirely with cash, and maybe paid in part with American Capital stock.

So we know the difficulties that our shareholders are experiencing and so in fact the executive compensation was significantly cut in 2008 and the value of the compensation awarded in ‘08 declined 69% from 2007. Parts of that is that there was a 60% decline in cash compensation for the top six American Capital executive officers from 2007, and there was a 73% decline in the value of equity related comp awarded to executive officers from 2007. The cash bonuses for all of the employees declined 93% from 2007.

The big reason we are wanting to review this, is that in the proxy that we have submitted, we provide a certain set of tables to reflect compensation information. These tables are formatted and it’s the SEC who requires the various formats for these tables and we think that though they reflect certain information, they can be confusing with respect to what is currently happening. So, the value of the equity comp in the proxy does not reflect the current value of what executives actually are receiving in that period.

So the SEC requires reporting based on the original value and so, pre-2009 options, for instance, have exercised prices at somewhere between $18 and $49 a share, and therefore are hugely under water and yet the value in the equity stock table accounts in the proxy which show their original Black-Scholes value.

In addition, the value of our equity stock accounts has declined 90%. Now the SEC requires disclosure of the total compensation in the proxy and that total primarily reflects equity awarded in prior years and only 21% of that total, if you look at the total column in the proxy, only 21% of that total is cash and the remaining balance is equity awards then 85% of those equity awards is that cost of pre-2008 awards expensed in 2008 and of course those equity awards are now worth a fraction of what they originally were valued at.

So look we know our shareholders, who have been with us for many years have suffered a great deal, and I just want you to know that we recognize that, we believe that compensation should decline, it has declined in ‘08 and it will also relative to prior years be lower in ‘09 as well.

Nonetheless, we want to make sure that we structure compensations, so that we keep and motivate what we consider to have some of the most outstanding employees in the industry, because it’s critical. Our investments teams are making critical decisions everyday about portfolio companies that can have tens of millions of dollars of impact on the value of our assets, and so it’s critical that we keep the very best people in the industry and so we’ve structured the compensation, we’ve asked for options from our shareholders to achieve that purpose.

Let’s turn to slide 15 and our outlook. We just want to reiterate that we believe, we are still operating in a severe recession and we anticipate it to continue through 2009 and as a result, we are highly focused on providing operational, managerial and financial support to portfolio companies.

We also are experiencing a dramatic decline in middle market M&A volume and that started in Q4. Its’ continuing through today. Both volume has declined, multiples have declined but just to reiterate, we’re a long-term patient investors. We don’t intend that to sell companies below what we believe is a fair value are in most cases optimal values and as I mentioned earlier, we removed six companies from the sales process over the last two quarters because of that.

So we remained focused on operational efficiencies. We continue to evaluate that, as we had all ready mentioned last year, we have two reductions in force and closed a number of offices to reduce our overall expenses. We will continue to make sure that we operate it at the right levels of efficiency.

Finally on slide 16, we just want to say that while it’s really too early to call a bottom to the recession and asset depreciation, we are cautiously optimistic, based on the recent economic data showing, that the rate of economic decline has significantly slowed.

Additionally, while we are not pleased with the amount of the depreciation in the quarter, it has significantly improved from last quarter and there are indications as of today in the last few weeks that spreads have indeed been coming in, investment spreads, and that will bode well for our asset valuations.

And so with that I would like to open it up to questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from the line of Vernon Plack - BB&T Capital Markets.

Vernon Plack - BB&T Capital Markets

Thanks very much. Malon, I’m trying to get an idea if you could perhaps quantify the fact that you’re going to have higher interest cost going forward. I think we all know that. I’m just trying to get a sense for, is your effective cost of debt at least what we know right now, is that going to go up couple of hundred basis points, 400 basis points? I was looking for some color there. Please.

John Erickson

Yes. Hey Vernon, it’s John. I think you could assume probably 200 basis points as a reasonable guess on that.

Vernon Plack - BB&T Capital Markets

Okay. Next question relates to the dividend. I know you have the payout of the $300 million, and I know there’s a limit on 90%, and also to limit that, I know you will authorize up to roughly 42 million shares in terms of being issued. Is that related or could you in theory issue 90% of that $300 million at theoretically any price if you had to do so?

John Erickson

It is not related to the selling shares below book. So, we could in theory issue 90% of our shares at whatever the current price was to meet the dividend requirement.

Malon Wilkus

Vernon also I would mention that we will be looking very hard at the question of whether it’s 90-10 or 80-20 or 70-30 in terms of stock versus cash in that dividend. We know it’s a very serious issue, our Board is taking it very seriously.

Operator

Your next question comes from the line of Sanjay Sakhrani - KBW.

Sanjay Sakhrani - KBW

I was wondering if we could dig a little bit deeper into the ACAS and the defaults there. What exactly caused that default kind of how many parties are involved and what’s that total amount outstanding over there that’s under default?

John Erickson

I think you can imagine. This is some of same things we’ve experienced in the U.S., both increasing credit issues and declining intangible net worth. So, if you look at what’s going with the BDC’s in the U.S and the type of pressures, it’s very similar to what we’re seeing in Europe. So, the asset values have depreciated there and defaults have gone up and so that has triggered defaults within their facilities.

Sanjay Sakhrani - KBW

Okay and how much is under default?

John Erickson

We didn’t disclose the amount but there are two primary facilities there that have experienced defaults.

Sanjay Sakhrani - KBW

Okay. All right I guess we’ll take a little bit more of that offline. But, you guys allude to the rate of economic, the economic slowdown slowing, I mean is there anything in your portfolio that leads you to believe that this is the case? And I mean, just historically I mean aren’t C&I loans kind of late cycle IE? We’ve just begun to see some of the slowdown but looses can extend out in to the future. John?

John Erickson

We are mark-to-market. We have taken $4 billion of depreciation over the past couple of years and so because of the way we mark-to-market, we’ve already suffered all that particularly through bond yield analysis, that’s already baked in to NAV.

So I think, that if you were to look at the economist forecast and talk about GDP growth in the third quarter and fourth quarter of this year, I would say that if we are sitting here next year, I would hope that we are in a situation where we have actually picked up some of the depreciation that we’ve previously taken and that should go well for valuations moving forward.

At the same time, you are right. We are going to continue to take losses and so whether we take a loss, next quarter-to-quarter, after I think a lot of that’s already baked in to the depreciation and the NAV that we are currently seeing, and if we have positive GDP growth in the third and fourth quarter and moving out into next year, I would hope, this time next year we are sitting with appreciation rather than depreciation from today forward. I mean, it’s hard to know and we are just going based on really the kind of economic data that’s been coming out in the past 30 days. It’s all pointing towards an improvement.

Sanjay Sakhrani - KBW

I guess, I was just thinking about it from a net operating income standpoint, maybe just towing that discussion into that number. I mean, if we think about non-accruals and where they could be headed and some of the elevated levels of expenses both on the interest side, as well as some of the restructuring advisor fees. I mean, how should we think about what a core run rate of NOI could be for the remainder of the year?

John Erickson

I think that you will see the increased cost in the second quarter clearly because we only had some of those increased costs for March and so, the advisors aren’t inexpensive in the total interest, but we’re optimistic, and particularly if the economic environment starts to improve, I think that helps with our ability to both get liquidity in the portfolio and to come up with a restructuring that satisfies the lenders and works well.

So, if that restructuring occurs in two months or four months or six months, that will kind of be where those costs, and we get the interest rate back in-line and quit picking up those costs. So, it’s difficult to tell you today, whether that, two more months of this or more months or whatever, but second quarter definitely we’ll have full load of increased interest and advisory costs.

Malon Wilkus

Sanjay, by the way, going back to your earlier question, which is, somehow things get worse before they get better, and of course no one really knows the answer to that. But if you look back at our investments prior to the last recession, certainly we all know that wasn’t as severe as this recession.

Nonetheless, our pre 2000, our 2000 investments achieved an 8% IRR. I dare to say, that was probably one of the better set of investments in that timeframe, relative to lots and lots of other asset classes and in part that occurred because we were able to ride the companies through the storm and come out the other side of the recession with companies that had better market shares and great, great opportunities and they were survivors.

We don’t see any reason why that won’t play out, and by the way at this time in the last recession those numbers, I’m pretty sure those numbers were negative for the IRR’s at that time and they turned around, that was a result of being able to exit and by the way, virtually all those assets have been exited. So, the 8% IRR’s actually, the exited IRR’s that will resulting IRR’s and we don’t see any reason why this current cycle won’t play out the same way.

Operator

Your next question comes from the line of Greg Mason - Stifel Nicolaus.

Greg Mason - Stifel Nicolaus

I would like to revisit the ACAS and requested, by the end of the quarter, if you could give us the non-a cash debt and assets at ACAS. This is your largest investment and you’re trying to look at strategic alternatives, I think this is important for shareholders. But could you talk to us about the [PUT] agreement at ACAS. I believe it was negative 50 million last year, how does that work as you look at strategic alternatives?

John Erickson

Yes, we ended up terminating the PUT agreement in the quarter, so that agreement is gone, and in terms of the amount of the third party debt, we have number, about EUR 820 million in total third-party debt European capital.

Greg Mason - Stifel Nicolaus

What are the assets there?

Malon Wilkus

About a EUR 1.7 million assets, that’s Euros, Michael?

Greg Mason - Stifel Nicolaus

Okay and then you talked about focusing on operation efficiencies. You still have 450 employees, how do you look at your headcount from here, given that your, you are not really originating many new assets, 450 employees still seems like a quite a bit?

Malon Wilkus

Well, we of course have close to 300 portfolio investments, and that means there is a lot of work to do. Frankly, there is more work to do, on a company in a demanding economic environment, then there is, when things are going well.

So, we are extremely focused on working with the individual portfolio companies and helping them ride through and address the issues, that recession confronts them well. We’ve been going through a very rigorous process of evaluating the impact of recession on each of the companies, and really setting out plans that will help them get through the problems and that they might face and, it does take people to do that.

And so, in addition there is a lot of other cost which are fairly fixed. Certainly, the public company cost, the fact that we have a number of companies that we do in kind of reporting that we provide. Nonetheless, we will constantly be evaluating the amount of employees that we have and whether they’re properly being utilized, and we will take any action when we think it’s appropriate to adjust the size of our staff as well as any of our expenses to our current set of assets.

Greg Mason - Stifel Nicolaus

And two more quick questions. It looks like Fitch downgraded one of your on balance sheet securitizations, the 2007-1. How does that impact you, and are there any of these on balance sheet securitizations that are trapping cash right now?

Malon Wilkus

First of all, it doesn’t impact us. You know, there’s no rating triggers and so the securitization, we don’t necessarily have to agree with them, but the securitizations are operating as planned. They are trapping cash, but we went through the 2001- 2002 cycle where our December 2000 securitization has also had the false trap cashes, as that was structured to do pay down bonds and then, once the economy started performing, it paid off all the bonds and gave us the balance of the assets out of it. So, that is to be expected with this structure. When you come through an economic cycle like this, the structure is designed to trap cash and pay down the bond holders.

Greg Mason - Stifel Nicolaus

Then one last question; Malon, you said that distressed sale of assets is not in your future. Why do you have confidence in that and what happens if the lenders accelerate, particularly given ECAS is in default and now you said you don’t expect to realize NAV. Why do you have confidence that, you’re not going to have to have distressed sales of assets?

Malon Wilkus

The creditors at American Capital are unsecured, and we believe that the kind of relationship that we have with our three sets of creditor groups will be able to achieve a resolution that will be satisfactory at all the parties. We’re working hard on that, we’re trying to reach a global solution with the creditors and I think eventually we will, I think it is a slow process. There’s a lot of folks involved and we’re trying to work with them as best as we can to achieve that.

So, I think that’s the most likely outcome as this simply will reach a resolution and I don’t think that resolution will require us to sell assets at discount. Then you asked what happens if they were to accelerate. Well first of all, that acceleration doesn’t actually mean that they would achieve any, that they would be looking for anything more than to receive default interest. So, that is a possibility for acceleration.

It is possible that they will press acceleration through the lawsuit, and that would take some few months probably to work through, but eventually, if they crested all the way till the end, we would almost certainly protect ourselves from the creditors through Chapter 11 filing. Again like I said, I don’t think that is the likely outcome of our circumstance at all, but you’ve asked the question, I’m going to answer it.

In the Chapter 11, we would still have unsecured creditors in, according to the Chapter 11 laws, they wouldn’t, unless we chose to we wouldn’t actually not be paying them interest until the resolution of the filing and they still would not have a claim on our assets and there would be a whole process of, with management coming up with the plan of reorganization.

We believe we can pay them off in full over the right term and if we are able to do that and be able to convince the court, we can do it and we think there are still tremendous reasons why the court should be convinced to that and creditor groups that we would be able to come up with a new structure that would allow us to come back out of Chapter 11 and preserve the equity for our shareholders, and quite possibly still have our creditors on an unsecured basis, but it’s possible that the resolution might be to provide them security over a longer, but with longer terms associated with that.

So, believe me, we’ve looked at this as carefully as we can. Of course, we as a firm that does mezzanine investments in hundreds of middle market companies over the years, we have quite a bit of experience with respect to Chapter 11 and the protection that it provides to the company and the shareholders of the company. If they indeed, there is value there and of course we have very substantial value in our equity at American Capital.

John Erickson

Let me just reiterate, our goal is to reach a consensual deal with the lenders. They’ve been a good long-term partner for us in many cases and we don’t want to end up with fighting and obviously there is always a risk, particularly where you have debt that gets traded and you have different creditors come into it. There certainly is a risk, but our strong preference is to work a consensual deal.

We think that’s the best MPV result for our lender partners and it’s best for our shareholders. So we are working hard at that. I think that, with the engagement o Miller Buckfire, they’ve helped to improve communications with all the different lenders and explain to them what we’re doing and why we’re doing it so that hopefully we can show them that we’re working hard on their behalf and we’re trying to get the maximum liquidity we can on the portfolio to satisfy them while not sacrificing real value.

Malon Wilkus

Greg, I want to reiterate the same thing as well. We are really working hard to try to find a solution for all the creditors, and I think the odds are extremely good that we will find that solution. But there is a chance that it could be otherwise, but believe me that’s the last thing that we want and so we’re going to work very hard with all of our creditors to reach a positive solution. I know what they want is their full value and that’s what we want to give them.

Operator

Your next question comes from the line of Matthew Howlett - Fox-Pitt Kelton.

Matthew Howlett - Fox-Pitt Kelton

Thanks for taking my question. Just to follow on that point, when you sell the Piper deal or any of your deals, do you have to approach the lenders first to get approval or is there anything that you have to do before that?

John Erickson

No, we absolutely don’t have to seek approval. But obviously in this situation, you know, we’ve worked with Miller Buckfire to provide a schedule to the lenders of all the potential liquidity we think we have in the portfolio and what we are doing to obtain it. So the lenders you know, through the communication process are certainly aware of it. But, there’s no approval required and certainly, we got a good value for Piper, which is why we sold it.

Matthew Howlett - Fox-Pitt Kelton

Okay, great and then just two portfolio questions; you showed a slide there where the debt to EBITDA on the underlying portfolio companies has come down, I think it’s 0.58 times average, is that a natural deleveraging or is that due to sort of a mix shift that you sold some companies or some leveraged companies had defaulted?

John Erickson

You’re talking about the average maximum of 5.3?

Matthew Howlett - Fox-Pitt Kelton

Yes, it’s the mean on I think it was…

Malon Wilkus

We don’t have a history of that mean. We just started calculating it starting this quarter because for sometime now I’ve realized that that maximum probably isn’t as informative as what the mean would be. Has that mean come down? My guess is it’s probably not changed very much from quarter-to-quarter. Maybe it’s come down a little bit. The average maximum has hardly budged as well.

I think we have a chart that shows the way in which we analyze this in the past, consistent which shows a long history of this. So if we can move the slide to that chart which is later in the presentation here in a minute and you can take a look at it, but then you can see that it’s been pretty stable and by the way, the interest coverage ratio has particularly being stable.

John Erickson

Right. One point of the chart Malon is that the debt to EBITDA we’ve calculated 5.8 times, which has been a historical metric. That was pure debt, it was net debt, and the 5.3 is net debt meaning that we have taken cash off the balance sheet that the portfolio companies have as well as made adjustments for seasonal working capital draw.

So, that’s why there’s a difference between the 5.8 and the 5.3 because the 5.8 is gross debt, it does not take into account the cash on the portfolio companies’ balance sheet or any seasonal working capital adjustments.

Matthew Howlett - Fox-Pitt Kelton

Okay, good. Fair enough and then on slide 64, you have a bulletin here that says your current projected cumulative loss rate for CMBS and CRE-CMBS is 2%, which is up from your original expectations. But, my question is, with the CMBS trading as if cumulative losses are going to be anywhere between 7% and upwards for ‘05 to sort of ‘07 vintages, is your portfolio that much different than the industries’ in terms of you expect lower cumulative losses?

John Erickson

Yes, I think that first of all we don’t [host] the industries as a proxy at all for that. We build up our losses from a bottoms-up approach. So, Doug Cooper and his team go through every single delinquency and default and come with a loss assumption and then for anything that’s delinquent or default, then they use a global assumption on it.

Certainly in this environment, you can imagine from October until now, there has been a lot of defaults that have kind of come out through the CMBS pools. People maybe have been carrying properties and feeding them out of pocket, kind of get discouraged and quick dealing.

So I think that, certainly all the properties are going to default but you know we’re looking at a fair number of them and I think that we are building up our loss assumptions for the bottom up. We’re going through and putting a loss on each one. It’s currently our best estimate.

Matthew Howlett - Fox-Pitt Kelton

Is there a current delinquency number you could give me on the CMBS portfolio? I mean for the industry it’s still low. It’s still 1.5%. I mean still really low for the overall industry.

John Erickson

Yes, I don’t have that with me but if you want to call us after call, we can get more details on the CMBS. Well obviously in terms of our current fair value, it’s very low.

Malon Wilkus

That pool currently represents that our investments that our investments currently represent 1% at fair value. I think the losses on that pool are less than, or around $475,000 today.

Now, we don’t think the current extraordinarily low level of losses is a reflection of how it will perform in the future, but we do believe that our forecast of delinquencies and losses going forward and the kind of the shape of the loss curve going forward, which has gotten worse from what we underwrote at, is the very best value or estimated value that we can come on, on that portfolio.

Indeed we do think our portfolio is performing better than the industry overall.

And by the way, we are also capable of -- if there are defaults, if we are in a position to end up owning real estate, and keep in mind this basically puts us into a first mortgage position, so we’re in position to own real estate and again be capable of riding it through the cycle.

John Erickson

Certainly, we hit people probably in their most negative period. I do think when we look at some of the properties, I actually think some of the properties that have defaulted, we feel like two or three years from now are going to be worth more than where they are today and one of the key factors I think will be, when does the real estate financing market recover? I think that we’re still ways off from that, but that will be one of the keys in terms of improving the commercial real estate cycle and mitigating some of the losses that it might appear today that we’re going to take.

Operator

Your next question comes from the line of [Simon Newson] - Julius Baer.

Simon Newson - Julius Baer

Two questions, one in regards to your negotiations with the creditors. How many proposals have been on the table and have been declined by either party?

John Erickson

Yes, I don’t think that we’re in a position to really comment on the status negotiations, I think last quarter we kind of had given a flavor that we had both the secured and unsecured proposal out there.

But at this point frankly where each of the three different groups being the revolving line of credit holders the private notes and the public bonds have engaged their financial advisors and their legal advisors and we are working through right now getting them due diligence material, so, but other than that I don’t think we’re going to comment on really status negotiations.

Simon Newson - Julius Baer

And Malon mentioned that, the probability sounded was high, what province would you put onto that, if you would have to put in percentage terms?

Malon Wilkus

For high to achieve a resolution with the creditors, I do think it’s high. I haven’t thought about probabilities, but that I do think it’s high. Keeping in mind, we are covering interest it’s extraordinarily rare for there to be for banks to move to the position where a company needs to seek protection under Chapter11, when they are covering their interest in full. That is just an extraordinarily unusual circumstance

Simon Newson - Julius Baer

My second question regards to ECAS. You mentioned that you are valuing at shares for $1 billion in your books. As we, the ACAS assets, do you have the realizable value estimate on the ACAS part of your portfolio?

Malon Wilkus

I think the equity; we were just doing whatever the equity, whatever carrying the equity at fair value that’s realizable. So we don’t have a different value for what’s realizable there.

Simon Newson - Julius Baer

So that’s yours U.S. profile that you are saying

Malon Wilkus

I think you are referring to European Cap. Our investment in European Capital?

Simon Newson - Julius Baer

Yes.

Malon Wilkus

Yes. It’s both the value that we have it at, the GAAP fair value is the same as the realizable fair value.

Simon Newson - Julius Baer

Okay. Isn’t that a bit too optimistic considering environment?

Malon Wilkus

Couldn’t hear that, what was that again?

Simon Newson - Julius Baer

It’s that a bit too optimistic considering the environment?

Malon Wilkus

Well, we are valuing it at a fifth of its NAV.

John Erickson

Yes.

Simon Newson - Julius Baer

I am sorry. I think we have, I know the way you are guiding in it, you’ve got a five net asset value attached to it. I am asking, I read you with your other investments. What is the, from your view what is the realizable value? A guesstimated realizable value.

Malon Wilkus

Our equity investment in European Capital, I believe it’s around $100 million.

John Erickson

For the equity, that’s right. For the equity portion we also have a debt investment European capital as which is about 300 million and so, the total for that $400 million is fair value is which would also be our realizable value on that investments?

Operator

Your next question comes from the line Faye Elliott - Bank of America.

Faye Elliott - Bank of America

Hi, thanks for taking my call can we just go over the salary costs, and could you just I guess explain what’s in there, its looks a bit high. Is there any severance in there, or does that just include the third party I guess workout teams?

John Erickson

The severance wasn’t recognized last quarter; I don’t think that there’s any severance in the salary benefit and stock comp.

Malon Wilkus

Any of the severance costs that we had from last year from any staff reductions were recorded in the fourth quarter of last year.

Faye Elliott - Bank of America

Okay. So is this a good run rate going forward, the 1Q run rate?

John Erickson

Yes, I mean it’s the best number we have I think is as Malon indicated depending on the operating efficiencies and any attrition or whether, who knows…

Faye Elliott - Bank of America

Right.

John Erickson

It’s the current run rate, yes.

Faye Elliott - Bank of America

Okay, great, thank you and can you give the dollar amount of or at least the percentage of pick income in the first quarter versus the fourth quarter and kind of explain what happened with your cash balance sequentially?

John Erickson

Rather, looking for the pick total, the cash balance, we actually funded, we had a unfunded commitment to Ford for a $120 million revolver, and that was funded in the first quarter, so that’s where the significant cash change came from.

Faye Elliott - Bank of America

Okay. You mean from one of your portfolio companies you…?

John Erickson

For Ford, the automotive companies. So we…

Faye Elliott - Bank of America

All right, right. Okay.

Malon Wilkus

And our total pick income for the quarter for interest and dividend was the first stock was $26 million.

Faye Elliott - Bank of America

Great. In the portion of ACAS debt that is recoursed to you. Have you answered that question, I apologize if you have. Is it just about 15% of the outstanding ACAS debt?

Malon Wilkus

We have a $300 million revolver at ACAS and then they have the rights grow up at about $87 million on that to cover one of the loans. So, I guess about 87 million is the maximum exposure we would have.

Faye Elliott - Bank of America

Okay. So on the, I guess, €100, I guess, RBS line that’s unsecured they could draw somewhere in the $80 million to cover that?

Malon Wilkus

Yes, $87.5 million.

Faye Elliott - Bank of America

Okay and then, the outstanding portion then is the Wachovia line and I take it that’s about €450 and you said that I guess there were two primary lines. Are those that the two lines that are in default?

Malon Wilkus

Correct.

Faye Elliott - Bank of America

Okay and the EUR 450 is due in payable in June?

Malon Wilkus

Correct.

Operator

Your next question comes from the line of Scott Valentine - FBR Capital Markets.

Scott Valentine - FBR Capital Markets

Good morning. Thanks for taking my question. Just a follow-up on the G&A operating expense, non-interest expense, you mentioned there was good run rate going forward. Is there any way to quantify what the advisory expenses could be going forward, maybe as either a dollar amount or percent of assets or something?

John Erickson

And now I unfortunately, probably can’t give you good proxy because there is different structures out there in terms of some incentives fees, that would be due if, when we have a resolution.

Malon Wilkus

There is six different engagements.

John Erickson

Yes.

Malon Wilkus

And I think there probably was actually eight different engagements that would come into play and actually we haven’t kind of run that number.

Scott Valentine - FBR Capital Markets

Okay. All right and then, in terms of asset sales, you mentioned that you pulled some off the market. Agencies probably traded a fair liquid, and if there’s any thoughts there on that asset?

Malon Wilkus

Agency.

Scott Valentine - FBR Capital Markets

The American Capital?

Malon Wilkus

Yes. The American Capital Agency. We have, well John why don’t you describe the two set of equity investments that we have there with respect to…

John Erickson

We have a total of 5 million shares. 2.5 million of them are off lockup, 2.5 million, the underwriter lockup expires in May. Obviously, we’ve been not locked up since November on 2.5 million shares and certainly up until now haven’t looked to get liquidity in it. Certainly, with that being a public stock, we can look for liquidity at any point in time, but we have not done it to date, and it’s been not locked up now since November for the 2.5 million.

Malon Wilkus

You have no idea, if we did start to get liquidity there and sell shares, we would have to file a Form-4.

Scott Valentine - FBR Capital Markets

Okay. Thanks for that and finally, on the ACAS some of the, I guess the press has carried the articles regarding maybe liquidation to sell the company. Either in whole or in part, is there any preference, would you rather have a whole company be sold or are you okay with selling various assets?

John Erickson

Every investment, it depends on the value we get, right. So, I think that we are looking to get good value for our assets. If we can’t get good value, we won’t sell, and if we do get good value, we will.

Scott Valentine - FBR Capital Markets

Okay. So everything I was saying about our portfolio companies and our need or willingness to sell at fair values versus at discounts, is it just as applicable to European Capital? I’m sorry, just not only applicable at European Capital, but also applicable to us, and that we own European Capital as a portfolio company?

John Erickson

Yes. I think for example, even last week, we think people are used to negatives, but right now we actually had a loan we invested in that we sold for a $600,000 gain last week that I think we invested in on a six months ago European Capital. So there are positives happening, and there are some ability to get liquidity and certainly the lenders appreciate it. I’m sure that we were able to sell our loan at a good price that we could use to pay them down.

Operator

Your next question comes from the line of Jeffrey Talbert - Wesley Capital.

Jeffrey Talbert - Wesley Capital

Hi, good morning, and also thank you for taking my call. Could I please just update the amount of debt on ACAS that was scheduled to mature this year? I know you that you paid down about 51 or so. I believe that as of at least 12/31, there was a pay down of 157 due to Wachovia by the end of this year, and then an additional, per your slide, about 181 totaling 338. If I net out the pay down, was that applicable to either one of those?

John Erickson

Let me take a look. Yes, we had the [inaudible].

Jeffrey Talbert - Wesley Capital

But differencing what was out on the Wachovia line and the 12/31 balance; it looks that about 157.

John Erickson

Yes, that’s the, we have like 82 million on the unsecured notes, 150 on the revolving line of credit, and then Rich do you know what the balance is?

Rich Konzmann

It is to be the amortization of the securitization.

Jeffrey Talbert - Wesley Capital

I got it. Okay, so that’s both called at 338. If I look at that 338 and then the EUR 552 that look like they are due in August, clear answer of Mr. Elliot’s question. At about a one-four exchange rate that’s about $772 million to at $1.1 billion of debt that it was matures this year. I’m just trying to square that with the comment about adequate liquidity in the release, I’m not sure if we’re assuming asset sales as part of that...?

Malon Wilkus

First of all, you can’t. You’re combining a portfolio of company’s obligations with our obligations and that doesn’t make any sense. So, the only thing that’s relevant to our shareholders really is, there is fair value relevancy with respect to how individual portfolio companies perform like your European Capital. But with respect to the debt obligations at American Capital, we have two things that due this year, and I’m sure John and Rich, they will tell me the numbers for each of those.

John Erickson

Yes, it’s the 230, $82 million on the unsecured notes and then 150 for the revolving credit facility, because the securitizations were self contained and they are amortizing based on their own cash flow. So, it’s really $230 million is the unsecured debt that’s through this year.

Malon Wilkus

And I should say that’s a number that in terms of getting liquidity off of our portfolio, just remind you in the fourth quarter, we got about $270 million of liquidity and in the first quarter $80 million of liquidity. Those have to be two of the worst, two quarters that are the most ill-liquid in the M&A market in history.

Now it’s possible that it will continue to be, just as a liquid but that’s certainly not the indications of what’s been happening in the last two months and three months. Let’s say two months now, there is certainly appears to be a lot more liquidity coming back into the market and including the middle market, M&A market.

So, to achieve that kind of liquidity, that would be necessary to service those to obligations. We think, we could achieve it. Now on the other hand, we are trying to seek a global solution to our defaulted situation and so, we are wanting to do something that works for all of our creditors and will evaluate that very carefully of course.

Jeffrey Talbert - Wesley Capital

Okay. Can I just ask a question for clarification? The senior debt that ACAS has advanced to ECAS, it looks like 363 and 12/31, is that an accurate number?

Malon Wilkus

At 12/31, it sounds about right.

Jeffrey Talbert - Wesley Capital

Okay and is that still accurate, as of the end of quarter one?

Malon Wilkus

I think it’s a little bit lower, but somewhere around $300 million.

Jeffrey Talbert - Wesley Capital

Around $300 million, just out of curiosity, ECAS is also on non-accrual status whether that’s continuing to occur?

John Erickson

That is continuing to accrue.

Jeffrey Talbert - Wesley Capital

Okay. Is that really fair to extent, it will, both the equity and debt in the same company. I was wondering from a lame perspective, I don’t know the loss that you can’t just carry.

John Erickson

There is equity value there, I mean so at this point in time. We believe that there is equity value, obviously, the changes we will change the status of that.

Jeffrey Talbert - Wesley Capital

Okay. If I could just one more really quick question I appreciate. The time on, when I look at the trying to share, looking at this right. You had 64 of NOI, 70 in change of realization less new investments in the company about 40 to 39. Is the 40 of additional investments in the portfolio a reasonable run rate number going forward, because what I’m trying to do is figure out, rather than EBITDA to debt service coverage. Really, how much cash you’ve got to pay your debt service on a continuing basis?

Malon Wilkus

Well, I’m not sure we want to get into the detail about what we forecast our requirements, both requirements and our desires in terms of making investments in portfolio companies retain value, to enhance value and so forth. But I think the run rate that we experienced in the first quarter is not unrepresentative of what we want to experience going forward.

Operator

Your next question comes from the line of John Neff - William Blair.

John Neff - William Blair

Hi, thank you, and two questions. One, just from a competitive advantage standpoint, cost of capital and your origination footprint have always loomed large in terms of your competitive advantages. Obviously, there’s been some absolute degradation in those. But what about on a relative basis; is cost of capital and your origination footprint still a competitive advantage on a relative basis?

Malon Wilkus

Well, that’s an interesting point. Despite the kind of origination volume, dramatic decline in origination volume in the fourth and the first quarter, we probably have originated more investments about any other firm in the middle market and despite the low levels of realizations in the fourth and the first quarter, we probably also have exited and received, done more exiting of portfolio companies than about any other firm in the industry and all of that’s just to say that we continue to be one of the largest firms out there, very, very few firms are making any investments though there has been a pickup in the last month or two.

So we continue, because our investment teams don’t just originate and then hand it over to somebody else, they both originate and then monitor and work with the portfolio company thereafter to achieve the best exits and resolutions of our investments. Because of that, we continue to retain an outstanding team of investment professionals that can not only do that management of portfolio companies, but can immediately turn back into origination when the time comes and the capital markets return.

John Neff - William Blair

Thank you and then, last question here was in the event of the Chapter 11, could you kind of outline for us the circumstances under which shareholder equity would be protected and if it’s a possibility would not be protected? Thank you.

Malon Wilkus

As you know we got about $2.6 billion of GAAP net worth and we believe on a realizable basis, it is about $1.1 billion higher than that and that as I said earlier would be very unusual for a company to go and seek protection under Chapter 11 if either if they are covering interest or if they have positive net worth.

It’s usually the case that you have neither those two things or certainly you don’t have one or the other and as long as we have that positive book value, we believe that we can protect the value for our shareholders even if we were having to seek the protection under Chapter 11 and I mean that’s really the simple elements of it and a lot of it has to do with the fact that our creditors are unsecured. If they were secured, it would be much more difficult for me to come to that same conclusion. Next question, please.

Operator

Your next question comes from the line of Larry Ring - Dwight Asset Management.

Larry Ring - Dwight Asset Management

I just wanted to talk about the cancelled put option, was that disclosed anywhere before this call and are there any financial ramifications to that?

John Erickson

I don’t think we’ve bought it and of itself. It’s material. We have transactions all the time, and so I think it will probably get disclosed in the queue. But it’s not in and of itself a material item.

Larry Ring - Dwight Asset Management

And was there any financial impact?

Malon Wilkus

It didn’t have the impact to your net earnings because if we terminated it at a fair value, the fair value of the liability, it was on our balance sheet at the end of fourth quarter. So, you will see a realized loss coming through on the income statement offset by unrealized depreciation for the reversals, so it had no impact on net income.

Larry Ring - Dwight Asset Management

And I think what [inaudible] was carried at about $71 million or so, I forget $69 million of unrealized.

John Erickson

It sounds about right.

Malon Wilkus

Maybe that’s around $69 million.

Larry Ring - Dwight Asset Management

Okay. So, we’ll see that backed out?

Malon Wilkus

Correct.

Larry Ring - Dwight Asset Management

Okay and how about the $20 million, will that be backed out too, the premium paid?

John Erickson

The difference between a premium and the $69 million is essentially the realized loss offset by unrealized appreciation. So, that’s all backed out.

Operator

Your next question comes from the line of Scott Ozer - Financial West Group.

Scott Ozer - Financial West Group

I was wondering, because of what’s happened in the past, is this going to change your thoughts on dividends in the future, should the situation turn around next year as you expect?

Malon Wilkus

I don’t know the answer to that. We were in an extraordinarily illiquid economy worldwide. I think every single company in the world, or virtually every single company in the world has to be thoughtful about liquidity and in their cash flows.

So, we’re going to do that and evaluate it as we go, and we certainly would like to get back to paying dividends on a very regular basis, but it may make more sense for us to do it on an annual basis as opposed to a quarterly one. But we’re going to try to evaluate that as best we can in the months ahead here.

Operator

Your last question comes from the line of David [inaudible] from Raymond James.

David - Raymond James

I’m not as sharp as some of these analysts, I’m a retail broker, but I do have a couple of questions here. Under the asset coverage ratio basically if I understand this correct you have ran into trouble with the creditors, because of the mark-to-market accounting, is that correct, because you had to, I think will write-down your assets?

John Erickson

We have a tangible network covenant which was impacted by the mark-to-market and that was kind of we breached in the revolving credit facility that we announced with our 12/31 earnings announcement on March 2.

Malon Wilkus

And it was a covenant that we entered into...

David - Raymond James

How much are you under that currently that you need to bring it back up for your equity side? It’ll reduce the debt. I assume one or the other.

Malon Wilkus

We have because of the fair value of accounting and because of the tremendous decline in asset values around the world and huge increases in investment spreads. We are materially under that covenant requirement.

David - Raymond James

Do you know the dollar figure?

Malon Wilkus

We could figure it out, but I’m not sure we’ll be able to do that on this call. You’d be welcome to call us and we will give you that number, it is all publicly disclosed but just give us a call and we’ll give you that number.

John Erickson

$1.8 billion is what we’re under the asset coverage today.

David - Raymond James

1.8 billion?

John Erickson

Yes.

David - Raymond James

On your work out with your creditors do you have a timeframe? Do you think that’s going to be done in the next three months, year-end? I mean, do you have a timeframe on that because you’ve been?

Malon Wilkus

Yes, David. It’s just something that we can’t no for sure. All we can tell you, is it’s been a slow process, because they have been in the all three of this creditor groups have been engaging both a legal advisor and a financial advisor.

This is very common in these circumstances and those advisors are spending time, getting up to speed. We are making presentations to them, working with them, helping them. We’ve got a data room that they are accessing and trying to get up the speed, so that they can do a good job of advising their clients which are the three sets of creditors.

We hope to work with all of those parties, to come to a good resolution. But there is lots of people involved and the kind of proposals that will, be made and be discussed and get negotiated will have to satisfy the interest of lots and lots of parties. There is 30 banks in other lenders in our revolving facility; there is quite a number of bond holders, both private and public.

So, there is a lot of people that we have to satisfy in these kind of discussions and so though I do believe the odds are very good, that will reach a resolution. It’s harder for me to say what timeframe. It could be, I suppose as early as the next couple of months or it could take longer than that. I will say that they are in the these folks are firms, that we will many of which we work with for a very, very long time, and has developed very close relationships and I think everyone wants to find a satisfactory solution.

David - Raymond James

Plus you could also have your assets go back up in value that would resolve the problem.

Malon Wilkus

Well, it doesn’t actually do that. The way a default works under most loan agreements is that once default occurs, you have to reap a solution with your creditors. Even if you were to get back into compliance you still would have a defaulted circumstance that you have to...

David - Raymond James

Resolve…

Malon Wilkus

Resolve Yes.

John Erickson

But nevertheless, if asset value starts improving, makes reaching solution easier, right? Because presumably there’d be more liquidity in the market, more opportunities to get value for your assets, which one of the best ways to fix the issue is to raise cash and to give some of that cash to lenders.

I don’t want this call to sound pessimistic, because I think that we actually are optimistic, certainly more optimistic today than we’ve been in any time in the past six or seven months, that we are starting to see signs of things improving, and we would hope that if we are sitting here in 12 months, that we’ll have net appreciation from day four.

I can’t tell you what net appreciation next quarter or the quarter after, but certainly if GEP starts to move positive and credit spreads come in, we would anticipate that that’s going to lead to appreciation of the portfolio and more opportunities to sell assets for better values, which ultimately is the best way to resolve our current situation.

David - Raymond James

In your announcement, you said your book or your net asset is 1232 and then you said at the end of the paragraph there you said you our realized NAV is 1707. That 1707 figure, assuming all the loans that you have taken because you’ve written a lot down because mark-to-market, you have realized some losses, but the bulk of your decline in that AV has been unrealized, is that 1707 assuming you get pace value back on your loans, is that...?

John Erickson

That loan is not a poor credit. We have taken and mark down the poor credits, but as the loans of good credit that we’re assuming that that’s paid off at par rather than the bond yield analysis that we have to do under FAS 157 and might show that loan being worth $0.90 from a $1. So, that’s exactly the difference between the realizable and then the recurring FAS 157.

Malon Wilkus

And then the realizable value approach is much more similar with respect to debt assets than as a bank would value their assets under today’s GAAP rules.

David - Raymond James

But, you guys also have equity in some of your companies; I’m assuming that assuming no growth in the equity portion?

Malon Wilkus

We continue to value the equity based on the current market multiples, transaction multiples discounted cash flow and recent transactions and any kind of third-party indications of value.

John Erickson

In fact, I’m hoping that we absorbed a lot of the economic downturn of that equity at this point, because particularly in the first quarter, we valued a lot of control companies by taking downward revise 2009 forecast and moving to afford multiple on that versus using the LTM because the LTM can lag the decline and so hopefully, we’ve recognized that the economy doesn’t get worse.

We’ve recognized kind of the run rate EBITDA where these companies are verses what their LTMs are looking like, because the LTMs can continue following as good quarter burn off and you take the lower economic activity. So, I’m hoping that we’ve kind of reflected the bottom, if this is a bottom in that portfolio.

David - Raymond James

My final thing would be a comment, since it is idea of lot of retail; I have little under 100 clients in your guys’ company. I’d really discourage you to of this reverse stock split. The last thing you guys want to do is pay this $300 million, 90% of it in stock and negotiate only stock, you can only pay bills of cash, you pay it in stock and then you turn around in reverse stock, a reverse split to stock. I wouldn’t be treating your public shareholders very good and I just, want to give a comment to that?

Malon Wilkus

Well, let me just finish the call by saying we appreciate that comment. We do know how concerned people have been about this issue and we don’t want to do a reverse stock. Its last thing in the world, we want to do. But on the other hand if our stock, if NASDAQ comes up with a arbitrary rule about who can trade on NASDAQ based on their stock value, we want to make darn sure that we can operate within that rule and a reverse stock split might help us to achieve that.

So, we’re just trying to do everything we can to look after our shareholders in our, we have an independent board, they like you and your clients have a great deal of stock in American Capital, actually a number of them have been buying since the turn of the year and the number of them bought the last year at much, much higher values. So, they care a great deal about how the stock performs and they know that the reverse stock split can be something of concern and so, they will consider it very carefully before they make any decision about doing it.

And let I want you and everyone to know that, these are not matters that we deal lightly with, but I think if you were in our shoes, you would want to have the flexibility that we’ve asked for in our proxy.

John Erickson

And keep in mind that our stock was probably trading about at $1, when we started to make some of these decisions and obviously, we’re glad that our stock has traded up since then, our market caps larger. The larger our market cap is, the more likely it is that we can avoid that type of a thing if we end up doing at 90/10 or 80/20 or whatever stock split, there is stock dividend and then, the higher the market cap is, the less likely that you’d have to think about doing a split at some point.

David - Raymond James

And you don’t eat stock; you eat cash, so…

Malon Wilkus

Yes, absolutely, we do know that and we’ve got a lot of people wanting that cash as you say, as we’ve been discussing on this call.

David - Raymond James

So, are you saying you wouldn’t split it, if it’s over a buck?

Malon Wilkus

Well, we want to stay above the NASDAQ arbitrary rule, which is currently $1, which they have suspended for a period of time. But the historical level was $1 and so, as you can imagine, if our stock starts to trade near that dollar, and when we wrote the proxy and issued the proxy, we were trading at much lower levels than we are today. So, we are doing it as a protective measure to have a tool to address a problem, which is in many an arbitrary problem and we don’t really want to use the tool if we can avoid it.

Malon Wilkus

Yes. Well, thank you for your comments. We very much appreciate yours and everybody else’s. We appreciate everybody, attending to our call today and we look forward to talking to you again and a quarter from now. So, have a good day and Greg you might want to end the call with your normal comments. Thank you.

Operator

Thank you. That does conclude your conference for today. Thank you for your participation and for using AT&T Executive Teleconference. You may now disconnect.

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Source: American Capital Ltd. Q1 2009 Earnings Call Transcript
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