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Solar Capital (NASDAQ:SLRC)

Q4 2013 Earnings Call

February 26, 2014 10:00 am ET

Executives

Michael S. Gross - Chairman, Chief Executive Officer and President

Richard L. Peteka - Chief Financial Officer, Treasurer and Secretary

Bruce J. Spohler - Chief Operating Officer and Director

Analysts

Troy L. Ward - Keefe, Bruyette, & Woods, Inc., Research Division

Christopher York - JMP Securities LLC, Research Division

Douglas Mewhirter - SunTrust Robinson Humphrey, Inc., Research Division

Vernon C. Plack - BB&T Capital Markets, Research Division

Jonathan Bock - Wells Fargo Securities, LLC, Research Division

Mickey M. Schleien - Ladenburg Thalmann & Co. Inc., Research Division

Operator

Good day, ladies and gentlemen, and welcome to the Solar Capital Ltd. Fourth Quarter 2013 Earnings Conference Call. My name is Gwen, and I will be your operator for today. [Operator Instructions] I would now like to turn the call over to your host Mr. Michael Gross, Chairman and CEO. Please proceed.

Michael S. Gross

Thank you, and good morning. Welcome to Solar Capital Ltd.'s earnings call for the year ended December 31, 2013. I'm joined here today by Bruce Spohler, our Chief Operating Officer; and Richard Peteka, our Chief Financial Officer.

Before we begin, Rich, would you please start off by covering the webcast and forward-looking statements.

Richard L. Peteka

Of course. Thanks, Michael. I'd like to remind everyone that today's call and webcast are being recorded. Please note that they are the property of Solar Capital Ltd., and that any unauthorized broadcasts, in any form, are strictly prohibited. This conference call is being webcast on our website at www.solarcapltd.com. Audio replays of this call will be made available later today, as disclosed in our earnings press release.

I'd also like to call your attention to the customary disclosures in our press release regarding forward-looking information. Statements made in today's conference call and webcast may constitute forward-looking statements, which relate to future events, or our future performance, or financial condition. These statements are not guarantees of our future performance, financial condition or results and involve a number of risks and uncertainties. Actual results may differ materially, as a result of a number of factors, including those described from time to time in our filings with the SEC.

Solar Capital Ltd. undertakes no duty to update any forward-looking statements, unless required to do so by law. To obtain copies of our latest SEC filings, please visit our website or call us at (212) 993-1670.

At this time, I'd like to turn the call back to our Chairman and Chief Executive Officer, Michael Gross.

Michael S. Gross

Thank you, Rich. During 2013, we enhanced both our portfolio and our balance sheet, with a focus on delivering long term sustainable earnings growth while protecting our downside. We've always run our business with a long-term perspective and we believe that adhering to this philosophy is even more important during periods of frothy credit market conditions.

During 2013, we focused our origination efforts on finding higher-quality investments that should preserve our NAV, rather than lowering our credit standards to achieve portfolio growth that may not benefit our shareholders long term. Our focus on delivering long term shareholder value is in line with the permanent capital nature of the BDC structure. We're able to capitalize in the middle market illiquidity premium, while providing our shareholders with daily liquidity. Additionally, the long investment horizon afforded by our permanent capital makes us an attractive financing provider for sponsors and entrepreneurs. It also enables us to be patient during periods of market stress.

Permanent capital as a company by a great responsibility, which we take very seriously. We're not only charged with investor and shareholders money during lender-friendly markets, but also during frothy markets like the past 2 years.

With our approximately 5% purchased ownership, we are fully aligned with our shareholders. Given where we are in the credit cycle, with new issue spreads near all-time lows and leverage levels and covenant protections continuing to favor the issuers, we've spent the past year defensively positioning our investment portfolio and balance sheet to continue to deliver shareholder value.

Our investment in Crystal Financial at the end of 2012 furthered this objective with it's 100% senior secured floating rate portfolio that is 100% performing. If the market crashed due to concerns over the Fed tapering or geopolitical uncertainty, our over $600 million of available capital will enable us to capitalize on opportunities that may result from a dislocation. Our knowledge base of middle market issuers, developed through our highly experienced underwriting team sourcing efforts for both Solar Capital and Solar Senior Capital, should provide valuable -- prove valuable in a market dislocation.

Just as importantly, if the current lending environment continues, we believe that the realignment of our dividend with the current spread environment has positioned Solar Capital to continue to provide our investors with stable income, while preserving our net asset value by not chasing yield at the expense of increased credit risk.

During 2013, we meaningfully enhanced the composition of our portfolio. The percentage of our portfolio invested in senior secured loans and Crystal Financial, whose portfolio consists entirely of senior secured loans, rose from 53% at the end of 2012 to 69% at the end of 2013.

During the year, we also increased the floating rate portion of our income-producing portfolio from 40% to 64%. Lastly, our portfolio is currently 100% performing. The monetizations of our 2 largest legacy investments during the third quarter, DS Waters and MidCap Financial, increased the diversification while reducing our fixed rate and subordinated debt exposure, while significantly reducing our PIK income. With yields of over 13% in each of those investments, our ongoing effort to redeploy approximately $237 million of proceeds in a lower spread environment drove our decision to reduce the quarterly dividend to $0.40 per share, which began in the third quarter.

Given our long-term perspective, we chose to reduce the dividend in order to avoid earnings pressures that would have compromised our strict underwriting standards. These dispositions resulted in greater portfolio diversification. Subsequently, Standard & Poor's affirmed our investment-grade rating with a stable outlook.

To provide us with an additional tool for accretively redeploying the proceeds from the 2 large monetizations, we announced a $100 million share repurchase program, which we extended in December to later in this year. At year end, we had repurchased a total of $17.5 million worth of shares at an average price of $21.98. Thus far, in 2014, we have purchased an additional $6.5 million worth of shares at an average price of $21.92. We currently have $76 million of availability to continue buying back our stock.

Additionally, our strategic investment in Crystal Financial has performed well for us, both in terms of its solid return on equity and in synergies that have resulted between our origination platform and Crystal's. Crystal's portfolio continues to be 100% performing. And during the quarter, Crystal, with our assistance, completed an amendment to its credit facility, which reduced its borrowing cost, extended its maturity and added a new lender.

Also during 2013, we enhanced our funding profile. In July, we announced the amendment of our revolving credit facility that resulted in the reduction in the interest rate to LIBOR plus 225 and extended the maturity 2 additional years through June 2018.

In December, we added a new lender with a $50 million commitment to this facility. During the year, we also retired a higher cost $100 million revolving credit facility. The weighted average maturity on our debt is now 2021. And we'll continue to evaluate opportunities in the current low interest rate environment to further extend that average maturity.

At year end, we had $490 million of unused borrowing capacity in our credit facility and $137 million of cash. And finally, we recently added a new senior investment professional who has 15 years experience in the leverage lending industry. We're already reaping the benefits of his credit knowledge and long-standing relationships with sponsors and intermediaries. We believe the strategic actions we took during 2013 has put us on strong footing to perform well in 2014.

We ended the year with our net asset value per share up $0.25 from Q3 at $22.50, and our net investment income was $0.42 per share, which exceeds our dividend. Given the heavy repayments during the fourth quarter, which Bruce will detail, as well as the repayment of Earthbound Farms in early January, we anticipate that the first quarter 2014 net investment income will be a closer approximation of our $0.40 per share dividend.

However, our pipeline is strong and building, and we believe we're on pace to have a strong year. During 2014, we'll continue to focus our underwriting effort primarily on senior secured floating rate loans. And we're continuing to look at other strategic initiatives for expanding and diversifying our earnings streams, while remaining true to our middle market direct lending mandate. Finally, our Board of Directors declared a quarterly dividend of $0.40 per share, which will be paid on April 1, 2014 to shareholders of record as of March 20, 2014.

At this time, I'll turn the call over to our Chief Financial Officer, Rich Peteka, to take you through the financial highlights.

Richard L. Peteka

Thanks, Michael. Solar Capital Ltd.'s net asset value at year end was $995.6 million or $22.50 per share versus $986.1 million or $22.25 per share, a $0.25 increase per share over our net asset value per share at September 30, 2013.

As of December 31, we had investments in 40 portfolio companies in 26 industries, totaling approximately $1.1 billion at fair value. Similar to September 30, 2013, where we also had investments in 40 portfolio companies and a fair value totaling approximately $1.1 billion, but in 24 industries.

At December 31, 2013, the weighted average yield on our income-producing portfolio declined slightly to 11.3% measured at fair value versus 11.6% at September 30. Gross investment income for the 3 months ended December 31, 2013, totaled $35.4 million versus $43.0 million for the 3 months ended September 30. Gross investment income during our third quarter included significant prepayment fees and accelerated upfront fee amortization from the significant prepayments previously mentioned.

Total expenses for the 3 months ended December 31 were $16.8 million compared to $21.4 million for the 3 months ended September 30. Total expenses during our third quarter included approximately $2.6 million of nonrecurring interest-related expenses, associated with the company's credit facility amendment with Citibank, as well as the extinguishment of the $100 million facility by Wells Fargo, mentioned by Michael.

Ultimately, our net investment income for the quarter ended December 31, was $18.5 million or $0.42 per average share versus $21.6 million or $0.48 per average share for the quarter ended September 30. Net realized and unrealized gains for our fourth quarter totaled $10.4 million versus losses of $11.1 million for Q3. Net realized and unrealized losses for the full fiscal year 2013 totaled $9.6 million.

Lastly, given the completed restructuring of our investment in Rug Doctor during the fourth quarter, our investment portfolio at December 31, is 100% performing, with no investments on nonaccrual status.

With that, I'd like to turn the call over to our Chief Operating Officer, Bruce Spohler.

Bruce J. Spohler

Thank you, Rich. As Michael highlighted, we believe our 2013 portfolio activity has resulted in the lowest risk portfolio that we've had since our inception. We're pleased with the financial performance of our portfolio of companies, and their management teams are cautiously optimistic about their individual growth prospects.

At 12/31, the weighted average yield on our income-producing investment portfolio was 11.3% and as Rich mentioned, the portfolio is 100% performing. The weighted average investment risk weighting of our total portfolio remained at approximately 2, when measured at fair market value at 12/31, based upon our 1 to 4 risk rating scale, with 1 representing the least amount of risk.

At the end of Q4, our portfolio consisted of 40 portfolio companies operating in 26 industries. At fair value, 64% of the income-producing investments are floating rate, including Crystal Financial, whose portfolio consists entirely of senior secured loans. Approximately 69% of the portfolio is invested in secured assets.

For the quarter, we originated just over $100 million of investments across 7 companies. When including Crystal Financial's Q4 investment activity, our originations totaled approximately $275 million.

For the full year, including Crystal Financial, we originated just over $720 million of new investments, with approximately 98% invested in senior secured loans and substantially all of the income-producing investments were floating rate assets.

Before I give an overview of Q4's portfolio activity, I'd like to spend a moment on some portfolio developments. As Michael mentioned, Rug Doctor, which was our one asset on nonaccrual at 9/30, completed its restructuring during Q4, with an outcome that caused us to return the asset to full accrual status. To support the restructuring, we made an approximately $9 million new investment in a cash-pay floating rate second lien security, along with our co-lenders.

Our equity stake post the restructuring, combined with our other lenders, represents the majority of the equity account. We look forward to continuing to monitor and work with Rug Doctor to create value over time.

As Michael mentioned, Crystal has performed well during our first year of ownership. As a reminder, this commercial finance company provides asset-based and other secured financing solutions to mid-market companies.

At December 31, Crystal had a well diversified senior secured loan portfolio totaling approximately $465 million, consisted of 27 funded commitments to 23 borrowers. All of its investments are floating rate.

The average exposure per issuer is approximately $20 million, thereby enhancing our diversification across Solar's portfolio. The weighted average yield on their loans is just in excess of 12.25%, and the portfolio was 100% performing at 12/31.

At the end of Q4, total debt on Crystal's portfolio was approximately $200 million, representing a debt-to-equity ratio of approximately 0.7x. During the final quarter, we extended the duration, lowered the cost, and added a new lender to this credit facility.

At 12/31, Solar had $75 million of available capital, subject to borrowing base limitations. Post year end, Crystal upsized its credit facility to $300 million, adding an additional $25 million of capacity.

During Q4, our investment in Crystal paid Solar Capital a cash dividend of $8 million, which is the equivalent of an approximate 11.5% annualized cash-on-cash yield.

And for the full year, Crystal paid Solar Capital a cash dividend of just under $32 million, which, again, equals a cash-on-cash yield of 11.5%.

Let me now highlight a couple of our Q4 investments. Our most significant investment is a $44 million investment in second lien term loan for Tecomet, which is a leading manufacturer of medical device products, specifically artificial devices such as artificial knees. The transaction is part of a first lien, second lien loan package, which supported Genstar Capital's acquisition of the business. Our all-in yield on this investment is approximately 10.5%.

We also funded approximately $8 million investment in the second lien term loan of Renaissance Learning, which is a provider of technology-enabled student assessment and school improvement programs. The company's products are focused predominantly on reading, as well as math and writing for K-12 aged students. Solar Senior Capital had been an investor in this company and had recently been repaid at par.

Our familiarity with the company, as well as the sponsor, and its strong history of de-leveraging, was helpful during Solar Capital's due diligence process.

In addition, we invested just over $9 million in the second lien term loan of HealthPort Technologies, which is a large provider of medical information exchange management services. The company is owned by ABRY Partners.

Now let me touch on some of our Q4 repayments. Our $25 million investment in the second lien term loan of Endurance International Group was repaid at a premium to par. This latest repayment by Endurance created an IRR for us of 14% and represents the fifth time that Solar Capital's franchise has successfully invested in this company.

Additionally, our $7 million investment in the senior secured notes of Good Sam Enterprises was repaid at a premium to par. We originally purchased these notes at a discount in the secondary market back in 2011, leveraging our prior experience with the credit under the name Affinity Group. Our IRR on this investment was approximately 19%. We were also redeemed out of our $15 million mezzanine notes in Crosman Corporation, owned by Wellspring, also at a premium to par. Our IRR in this investment, originally made in April 2011, is just under 17%.

And in January, as Michael referenced, we were repaid on our $59 million subordinated loan to Earthbound Farms at a premium to par, which created an IRR of 17% when including our initial investment back in 2009, as well as our add-on investment in 2010.

Now I'd like to turn the call back over to Michael.

Michael S. Gross

Thank you, Bruce. In conclusion, we believe that the strategic enhancements we made, both to our portfolio and our funding profile, have positioned us for long-term success. We expect our predominantly senior secured floating rate portfolio, which is 100% performing, to provide us with downside protection if economic conditions deteriorate, as well as in a rising rate environment. We believe the amount of our quarterly dividend gives us the ability to make disciplined investment choices instead of chasing yield at the expense of increasing credit risk. Our over $600 million of available capital gives us the ability to expand our portfolio in our core middle market origination business, as well as consider additional strategic alternatives, like Crystal, that are consistent with our investment philosophy. And if we believe the value proposition of repurchasing our shares is stronger than using that cash to make new investments, we will continue to do so under our ongoing stock repurchase program.

Recently, the theme of growth and how it's achieved have become a focus in the BDC industry. I'd like to take a moment to share with you our view on growth.

First and foremost, we view ourselves as principals of this business. Every member of our investment team has made a significant investment in Solar shares. We invest our own money alongside of shareholders, and so we are focused on conservatively expanding Solar Capital's earnings, not the assets which we manage. As I mentioned before, we've never sold a share and so we are focused on long-term returns.

Poor credit decisions which may boost near-term earnings have the potential to be more than wiped out if those investments are not repaid in full. We are seeking to expand the size of our portfolio and its income stream by using our origination platform to source predominantly senior secured, floating rate middle market loans.

The addition of experienced investment professionals to our origination team has enhanced our sourcing capabilities. In 2014, we'll continue to focus origination efforts on senior secured opportunities, and we're evaluating other strategic initiatives to expand and diversify our income sources through acquisitions or partnerships that are congruous with our direct middle market lending business.

At 11:00 this morning, we'll be hosting an earnings call for the full year 2013 operations for Solar Senior Capital or SUNS. Our ability to provide senior secured financing through this vehicle enhance the origination team's ability to meet our clients' capital needs. We continue to see benefit to this value proposition in Solar Capital deal flow.

Thank you for your time. And now, let's open up the line for questions.

Question-and-Answer Session

Operator

[Operator Instructions] Our first question comes from Troy Ward with KBW.

Troy L. Ward - Keefe, Bruyette, & Woods, Inc., Research Division

Can you just provide us some better color on the fee income for the fourth quarter, not for the full year, just for the fourth quarter?

Richard L. Peteka

We did have a bunch of prepayments where we got both prepayment penalty fees, as well as we recognized income on the fees that we got originally when we did the deal, but we were conservatively amortizing those fees. So the income recognition is done at the time we're taken out. It was a few million dollars. So probably around $0.06-or-so a share. But it's very lumpy based on timing of when these things hit.

Michael S. Gross

But as you know, because we consistently experience repayments, we tend to have prepayment fees and an acceleration of [indiscernible] fees every quarter, part of our core business.

Troy L. Ward - Keefe, Bruyette, & Woods, Inc., Research Division

Right, right. And then was there any type of fee related to the to the Rug Doctor restructuring that came in through the income statement this quarter?

Richard L. Peteka

No.

Troy L. Ward - Keefe, Bruyette, & Woods, Inc., Research Division

Okay, great. And then Michael, you talked about the amendment to Crystal's funding cost in the fourth quarter, can you just -- will that help the returns that you can expect here in 2014 to Solar from Crystal?

Bruce J. Spohler

Yes, I think a couple of drivers there. Yes, bring the cost of capital down, which clearly Crystal did not get the full benefit of because it was closed in Q4. That will help. I think additionally, as I mentioned, we've increased the size of the facility by another $25 million to allow us to put a little bit more leverage on the margin will help as well. But as you know, Crystal -- the real driver for Crystal is the churn in the portfolio. It's less the stated coupon and more the timing of the recognition of both upfront fees and repayment fees. And the company saw a significant churn in 2013. And I think that's really what will create incremental returns in '14. But yes, on the margin, clearly lower cost, that will help.

Troy L. Ward - Keefe, Bruyette, & Woods, Inc., Research Division

So in a market where we finally quit seeing tightening of spreads and a tighter market all the time, we could expect to see the returns from Crystal come down commiserate with the lower churn?

Bruce J. Spohler

No, I think we -- it will probably run in place because, I think, you have some mitigating factors there.

Michael S. Gross

Their churn really isn't because of yield compression in the market, it's because their companies are event-driven and things happen to them. I mean, one of the big positives of the Crystal experience for us -- and it's kind of what our hypothesis was going into it over a year ago -- was it's not correlated to the rest of the lending businesses that we and all the other BDCs are involved in. We did not see yield compression in that business. We did not see the need to take any incremental risk to grow the portfolio. And that's -- just frankly, it's just not true of the core LBO lending business today.

Troy L. Ward - Keefe, Bruyette, & Woods, Inc., Research Division

Okay. And then -- you talked about Earthbound and activities this -- in the first quarter has already happened. Is there anything else significant and specifically with ARK Realty, there's is something that you've talked about monetizing. And we saw some of that with the exit of the senior debt. Can you speak to the remaining equity investment, and specifically repayments here in the first quarter?

Bruce J. Spohler

Yes, to your point, in Q4 we saw the repayment of all of the debt investments we had associated with ARK. So that was a big part of the repayment, close to $75 million in Q4. So that's behind us. And concurrent with that, it was a result of the monetization of underlying assets. So most of the equity that you see left, just around $20 million-or-so, is predominantly in cash waiting for distribution. So we do expect that to be monetized in the first part of the year here.

Operator

Your next question comes from the line of Chris York with JMP Securities.

Christopher York - JMP Securities LLC, Research Division

I noticed that you have a capital loss carryforward of about $33 million on the balance sheet. Do you have a specific strategy of how you plan to use that or do you expect that item should resolve itself over time to realize gains?

Richard L. Peteka

Yes. I mean, we have 8 years to deal with that. And we'll be selective in picking up gains, with capital versus other types of character of income. So that was through the restructuring, primarily of ARK -- I'm sorry, not of ARK, the restructuring of Rug Doctor, which we mentioned earlier. So there's some other stuff, but that's the accumulated number from some of the realization events that happened during the year. And we have 8 years and we're patient investors. And we expect to pick up some gains, but it will be lumpy over time. And we'll be able to get the benefit of that, that loss carryforward.

Christopher York - JMP Securities LLC, Research Division

Got it, fair enough. And then the second one here is, with 2 quarters of relatively large cash balances, have there been any internal discussions about amending your external management agreement, to have the base management fee calculation be more in line with recently filed BDCs?

Richard L. Peteka

Right now we do have a cash equivalents note in our filings, and we don't -- we're not charging a management fee on that cash.

Operator

Your next question comes from the line of Doug Mewhirter.

Douglas Mewhirter - SunTrust Robinson Humphrey, Inc., Research Division

Just had a few -- first, just a clarification of numbers, I just wanted to make sure I had things right in the model for what happened in 4Q. I have that you made in 4Q about $87 million of new investments and $166 million of redemptions and repayments, is that correct? This is not including Crystal.

Michael S. Gross

It sounds right.

Bruce J. Spohler

The repayments is, I think, around $130 million, leaving aside the Rug Doctor recapitalization.

Douglas Mewhirter - SunTrust Robinson Humphrey, Inc., Research Division

Okay. My second question is about, I guess, leverage, the debt-to-EBITDA levels. What was your rough idea of your debt-to-EBITDA in your portfolio? And how does that compare with the third quarter?

Bruce J. Spohler

It did not change materially from third quarter to fourth quarter, and it continues to be in sort of that high 4x through our investment tranche.

Douglas Mewhirter - SunTrust Robinson Humphrey, Inc., Research Division

High 4s?

Bruce J. Spohler

Yes.

Douglas Mewhirter - SunTrust Robinson Humphrey, Inc., Research Division

Okay. And I guess last, just a more of a big-picture question. There's a lot of legislation going around about BDCs. One in particular is proposed raising leverage limits. I know right now for you that's not a huge issue, but I just wondered if maybe Michael could weigh in on the possibility of that happening, with the way he sees it now in the climate in Congress, and whether that is a good thing or a bad thing in the future for Solar?

Michael S. Gross

I think, my opinion of whether it's going to happen or not is probably not that meaningful. I will say, I spoke to a couple of lawyers involved and they're probably more optimistic than they have in the past, but they're assessing it as a 40% to 50% probability that it will happen. That's their optimistic view today. Look, I think, net-net it's a positive. I think in the hands of the right asset managers, it's a great tool to have. Others may abuse it, but I think there's a certain asset class that's certainly conducive to being levered more, senior secured loans specifically. When we talk about SUNS, that business should be levered more than 1:1. But if you talk about leveraging already highly levered subordinated debt, that probably shouldn't be. But we would welcome that potential. And we would use it judiciously like we do our current leverage today.

Bruce J. Spohler

But I think to Michael's point, it's very important when you look at the underlying assets and the composition of the portfolios, and where that leverage can truly be accretive versus, perhaps, taking on a bit too much risk.

Operator

Your next question comes from the line of Vernon Plack with BB&T Capital Markets.

Vernon C. Plack - BB&T Capital Markets, Research Division

Michael and Bruce, you talked about the frothy markets that focus on conserving capital and the defensive position that you're taking. But I know you talked about new investments, but I wanted a little more color just in terms of what do you really like these days?

Bruce J. Spohler

Yes, I think, to state the obvious, we like to find differentiated ways to invest in mid-market credit assets, whether it's through Crystal or over at Solar Senior, our acquisition of Gemino, both taking an asset-based mindset when underwriting mid-market credit. I think those are differentiated, and to Michael's point, less correlated investment strategies. And then, I think, we are seeing more activity on the M&A front in the sponsor community. And that is a place where we are more comfortable because it gives us the chance to do greater due diligence, alongside the sponsor as they're evaluating their initial investment in the platform company. And so we're spending more and more time with a core group of sponsors really looking at new M&A activity, where we have the ability to, not only do greater due diligence, but generally get better terms, a little bit more yield and tighter loan documents. And to state the obvious, clearly, we're looking at senior secured as the primary focus of where we're spending our investment dollars.

Michael S. Gross

Let me just add, we continue to like the deal flow that we're seeing out of -- out of Crystal. It continues to be very favorable loan-to-value and returns in the double digits.

Vernon C. Plack - BB&T Capital Markets, Research Division

And speaking of senior securities, secure plus Crystals, I think is 69% of the portfolio. Floating rate is 64%. Where can we expect those numbers to go during the next 12 months to see, based on what we're looking at today, does senior secured, can we think of that at the end of the year, would that get as high as 80%, 85%?

Bruce J. Spohler

Yes. I think just looking at Q1 and taking Earthbound out is a $59 million fixed rate unsecured investment. That's going to have a mathematical push there. But I think 80% is probably not a bad number.

Operator

Your question comes from the line of Jon Bock with Wells Fargo Securities.

Jonathan Bock - Wells Fargo Securities, LLC, Research Division

Maybe a global question, first, because I appreciate your color on fee income. So $0.42 earned this quarter. And of that, I think, Rich mentioned maybe $0.06 are tied to fees. And while we do expect fees to ebb and flow generally, we also know that they're really going to be tied to economic activity. And so either all of the loans effectively that have repaid or were supposed to repay will do so. And we would hope that new loans go on the balance sheet. But given your conservatism, we've been reticent to do that in light of the credit environment, which makes total sense. But if we start to look at it, so $0.34 relative to $0.40 divi, portfolio growth remains negative for 2 quarters, particularly this quarter when a number of BDCs were actually able to generate portfolio growth. And spreads, as we look on the second liens that you invested in today, which is the majority of the new investments, spreads have all-in, say, all-in yields of 9% relative to the 11s that are running off. It just seems hard to even, one, kind of get to the dividend in light of fees. And that there might be an issue as you hold, let's say, fee income in high regard and continue to have it pay. If there's any issue to that line, what happens? So maybe give us a sense. We see a few headwinds. And the idea is, portfolio growth has to materialize to fix that and to lower the cash balance. But Michael, you're being very conservative, which is highly regarded. I just want to know what should you have your clients expect from a return profile in light of these heavy headwinds?

Bruce J. Spohler

Yes. I think what you're hearing from us is, as you know, this is a lumpy business quarter-to-quarter. But as we look out across 2014, we've invested in the origination capabilities by adding a couple of people, as we've highlighted. We've already seen some early returns on that in the first part of this year. I think that you can expect us, given that we did have Earthbound and some repayment, continued repayment activities we all are seeing, you can expect us to run in place a little bit, start to see some growth as we get into Q2 and Q3. And our hope is that we end the year with some of these growth initiatives taking hold so that you're going to see meaningful growth across the year.

Michael S. Gross

Let me just chime in a little bit also. I think we purposely picked the $0.40 level last summer because we knew that without growing, we could hover, with some fees and without some fees, in and around that number. So this quarter $0.42, maybe next quarter will be a little shy of that. But on average, we feel very good that, without any growth, we can sustain a $0.40 level. It won't take much to change that because, as you point out, we have cash on our balance sheet that's earning 0. So if we invest that 7%, 8%, 9%, that's going to have a direct impact to the bottom line. I think importantly, -- important kind of message to pass along. Look, we're willing to accept a low rate environment, but we're not willing to accept more risk to take on that risk. So we will invest some money at 8%, 9%, 10%, if we see the right risk/reward. We're not shying away from that.

Bruce J. Spohler

And we're not worried about continued contraction. The portfolio is about $1.1 billion, similar to what we saw at the end of last quarter. It's more about, to your question, growing beyond the run in place. And that's a combination of some of the repayments abating, which we think is a natural evolution here, particularly given our average investment size has come down, given the repayment of our 3 or 4 substantially larger investments, including Earthbound. And we do believe that we've got the growth engines in place. Even though to Michael's point, we're being highly selective on the risk front, you'll see portfolio growth in '14.

Jonathan Bock - Wells Fargo Securities, LLC, Research Division

I appreciate that color and candor. And one item that we look at as we evaluate repayment risk, obviously, to the extent that one has a debt investment trading above both cost and in a sense also above par, that would imply that you do have -- of an exit fee of some sort that could be materialized. And so, could you, as we look at some of the repayment risk, maybe walk through, outside of Earthbound, with maybe another big one, Adams Outdoor Advertising, a sub debt is a 17% yield and the $42 million cost held, it's now $44 million fair value, is there call protection there or is that something one could expect to be prepaid over time?

Bruce J. Spohler

Yes. That's one that you know we've been blessed with for a number of years, and have been able to continue to extend call protection. Barring a continued extension, we would expect that to exit probably in Q4 or Q1 next year.

Jonathan Bock - Wells Fargo Securities, LLC, Research Division

Okay. Okay. Makes sense and I appreciate that. And then last one as it relates, Bruce, Michael, you do focus on remaining high quality and, in particular, talked about a focus on senior secured. And as I look at the new investments, I noticed that there's second lien. And so if I looked at the leverage levels implied from a first and second lien type of transaction done in the market, I see that second lien at times carries the same, if not higher, leverage relative to some first and mezzanine transactions implying that there's some real risk from a leverage perspective in second lien type of transactions. Can you walk through that, if that's what you're seeing? And then maybe talk about some of the mitigants that you are employing to originate the second lien paper that maybe some would argue is a little less attractive in today's environment relative to where it was and may present some credit risk in the future.

Bruce J. Spohler

Yes. I think, clearly, and I think we talked about this in the past. All things being equal, the exact same leverage attachment point to second lien is a better position to be than a mezzanine. But leave that issue aside because I don't want to get into the legal arguments, but what we're doing on a second lien basis is trying to leverage opportunistically where we've had an existing investment. It might be Renaissance, which I alluded to, where we've been a first lien lender for some time. And so we're comfortable with the company and, therefore, comfortable with the second lien. If you look at a number of the repays that we've had, Endurance, for example, was a similar type investment. We've been in it 5 different times, first lien, second lien. So we're very comfortable with the business, the management team and the sponsor. But we've taken these position sizes relatively small, $10 million to $20 million, $25 million tops. So highly, highly diversified. And then, when you look at things where we're doing more new direct origination, where like a Tecomet as I referenced, which is a $44 million investment in Q4 with Genstar. That's something that was in the 5s in terms of leverage ratio, as I mentioned. So much less levered than what you're seeing in the broadly syndicated market, with most things coming with a 6 handle on the junior capitals leverage. And it's direct origination, deep dive due diligence and, importantly, covenants, and higher returns. We're seeing a good 100, 150 basis points higher than what we would get in a syndicated deal. But more importantly, as you know us, we've had the ability to underwrite directly and feel comfortable from a risk perspective and give private level leverage levels, rather than liquid loan market leverage levels.

Operator

[Operator Instructions] Your next question comes from Mickey Schleien with Ladenburg.

Mickey M. Schleien - Ladenburg Thalmann & Co. Inc., Research Division

I wanted to ask you about the use of cash. The Crystal acquisition has obviously done well. Would you consider something analogous to that, that might allow you access to a platform that is complementary to the existing business, perhaps targeting smaller companies? Or at this point, would that be too much of a distraction for you in the sense that it would be a separate management team and a separate entity outside of the Solar platform itself?

Michael S. Gross

Yes, Mickey. We are always looking for things that are complementary. I think we have -- we're very stringent about our criteria. That's why we haven't done that many acquisitions. I think, Crystal's a year behind us. It's fully integrated. In terms of management, we have a lot of confidence in them. And so it doesn't take a lot of our time. So were we to find the right business, with the right management team, and the right risk/reward profile, the answer is yes, we would continue to do strategic acquisitions like that.

Bruce J. Spohler

And we would also evaluate building businesses as well, as we look at new asset classes. So that's another place where we're spending some time.

Mickey M. Schleien - Ladenburg Thalmann & Co. Inc., Research Division

And just one more follow-up on -- going back to the fee income line. I know everybody has sort of asked about this, but I wanted to clarify the $0.06 per share that Rich discussed, was that investment income or net investment income of $0.06 per share?

Michael S. Gross

That's gross investment income.

Richard L. Peteka

That's right.

Mickey M. Schleien - Ladenburg Thalmann & Co. Inc., Research Division

Gross, did you say gross?

Michael S. Gross

Yes, gross.

Operator

We have a follow-up question from the line of Troy Ward with KBW.

Troy L. Ward - Keefe, Bruyette, & Woods, Inc., Research Division

Bruce, you talked about Crystal and the amount of leverage there. Can you just tell us, remind us what the kind of level of leverage you're comfortable with at Crystal? And do you view the growth opportunities there falling within your current equity base or would you see potential for growing Crystal, which would include more equity?

Bruce J. Spohler

Yes, I think, we would be comfortable taking that closer to 1:1. As we mentioned, we did just upsize the facility to $300 million, which would allow us to do that. Additionally, we would love the opportunity to put more equity into Crystal. But I think, as we talked about in the past, it's tough to have visibility on that business, in part, because the opportunities materialize quickly, even though you've looked at them for a while, then all of a sudden, it's time to invest, because of some event that Michael alluded to. And likewise, not a lot of advance notice on prepayments. So it's just a little bit difficult to forecast in what is already a lumpy business. But yes, we would love to put more equity into there.

Operator

There are no other questions at this time.

Michael S. Gross

Thank you, everybody, and we look forward to those who are participating on our 11:00 call. Thank you.

Operator

Ladies and gentlemen, thank you for your participation in today's conference. This concludes the presentation. You may now disconnect. Have a wonderful day.

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