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OFS Capital (NASDAQ:OFS)

Q4 2013 Earnings Conference Call

March 17, 2014 11:00 AM ET

Executives

Glenn Pittson - Chairman and CEO

Robert Palmer - CFO

Mary Jensen - VP, IR

Analysts

Mickey Schleien – Ladenburg

Allison Taylor - Oppenheimer & Co. Inc.

J.T. Rogers – Janney Capital

Troy Ward - KBW

Operator

Good morning everyone and welcome to OFS Capital Corporation’s 2013 Year-end Earnings Conference Call. Please note that today’s call is being recorded and there will be an opportunity for questions at the end of today’s presentation. It’s my pleasure to turn the conference call over to Ms. Mary Jensen, Vice President of Investor Relations. Ms. Jensen, you may begin.

Mary Jensen

Thank you. Good morning everyone and thank you for joining us. With me today is Glenn Pittson, our Chief Executive Officer; and Bob Palmer, our Chief Financial Officer. Please note our earnings announcement was released this morning and can be accessed via the Investor Relations section of our website at ofscapital.com. We plan on filing our 10-Q later this evening.

Before we begin, please note that the statements made on this call and webcast may constitute forward-looking statements, within the meaning of the Securities Act of 1933 as amended. Such statements reflect various assumptions by OFS Capital concerning anticipated results are not guarantees of future performance and are not -- are subject to known and unknown uncertainties, uncertainties and other factors that could cause actual results to differ materially from such statements. The uncertainties and other factors are in some ways beyond Management’s control including the risk factors described from time-to-time in our filings with the Securities and Exchange Commission.

Although we believe these assumptions are reasonable, any of those assumptions could prove to be inaccurate and as a result, the forward-looking statements based on those assumptions also could be incorrect. You should not place undue reliance on these forward-looking statements. OFS Capital undertakes no duty to update any forward-looking statements made herein. All forward-looking statements speak only as of the date of this call. A replay of this call will be available until March 25, 2014, beginning approximately two hours after we conclude this morning. Alternatively, the webcast will be available for the next 30 days. To access either replay, please visit our website at ofscapital.com.

With that, I’ll now turn the call over to Glenn.

Glenn Pittson

Good morning and welcome to our year-end earnings call. During our call, I’d like to address three main topics, where we are, the impact of owning a 100% of our SBIC Fund, and what we see for 2014.

2013 ended up on a positive note as we completed our acquisition of the third-party interest in the SBIC Fund and we consolidated the fund assets on to our balance sheet. That transaction was critical to the implementation of the core business plan we introduced in the course of our IPO road show, the economics of having a wholly-owned and operated SBIC Fund, which is commonly referred to as a drop-down fund or highly compelling and set the foundation to generate solid returns for our shareholders.

We are also fortunate that the close of this acquisition permitted us to bring the members of the SBIC team back into OFS Management. The three founding partners of the SBIC Fund are now partners and the parent of our investment advisor. Our SBIC team presently consists of 11 investment professionals located in Los Angeles, Chicago and New York, all of whom are focused on putting our capital to work and direct investment opportunities which we generally refer to as structured debt and equity.

We expect to add five investment professionals over the coming months. The goal is to ensure that we have the origination and transactional capabilities to consistently produce direct investments with a run rate of about $10 million per month. Along with the exemptive relief granted to us by the SEC, the acquisition created a number of benefits for our Company such as; first, converting our investment from an ineligible asset to an eligible asset; second, eliminating the inherent complications of working with a group of third-party investors and a strategically important investment; third, simplifying our ownership structure which permitted us to commit sufficient capital to increase the size of the fund over time to the regulatory maximum of $225 million, and fourth giving us access to the favorable leverage provided by the SBA debenture program.

The transaction took longer than expected to close due to various regulatory considerations as well as the fact that we were negotiating with a diverse group of outside investors who are literally scattered across the world. In the end, we reach an agreement with our third-party investors and the SBA was responsive in approving our application.

As a condition to closing the acquisition of the third-party interest in the SBIC Fund, its existing management agreement was terminated. The SBIC Funds assets are now subject to the investment advisory agreement between OFS Capital Corporation and our investment advisor. That provides economic benefit to our investors, because we paid base management fees to our investment advisor on our assets including those in the SBIC Fund, which are calculated at a level materially below that which the SBIC Fund was paying under its then existing management contract.

As mentioned before, our overall portfolio is constructed to generate consistent cash returns for our investors through both the senior loan fund and the SBIC Fund. Specifically regarding the consolidated SBIC Fund portfolio, we believe that the economic set of portfolio are shaping up along the lines we described prior to our IPO.

At year-end, the SBIC Fund investment had an overall weighted average yield per debt instrument approaching 14%. This consisted of cash yield on our structured debt investments approximating 12% or PIK interest is averaging about 2%.

As of December 31, 2013, OFS Capital including the SBIC Fund, had investment assets of $237.9 million at fair value with about 1.5% in the form of equity investments not providing scheduled contractual cash pay income.

We continue to focus on building a solid and diversified core in revenue producing investments. As we mentioned in the past, our plan is to have roughly half of the investment portfolio in floating-rate assets funded through floating rate liabilities, while the other half is in fixed-rate investments supported by fixed-rate liabilities.

The eight portfolio companies in which the SBIC Fund had investments at the end of the year have average revenues of about $29 million and average EBITDA of $5.5 million. Looking at the trailing 12-month statistics for this portfolio, our average debt to EBITDA ratio is 2.4 times.

The parameters of the companies in which we consider investing remain unchanged and we are enthusiastic about the types of opportunities we see within these guidelines. We are further encouraged by having significant available capital that will meet our expanding underwriting capabilities as well as an attractive cost of capital through the SBA debenture program.

Now, let me turn the presentation over to our Chief Financial Officer, Bob Palmer.

Robert Palmer

Thanks, Glenn. Our investment portfolio totaled $237.9 million on a fair value basis as of December 31, 2013. It consisted of 58 portfolio companies, including 50 companies in the senior loan fund and eight in the SBIC Fund. At year-end 2013, our investments were comprised of senior secured debt investments in 56 borrowers with an aggregate fair value of $221.5 million, subordinated debt investments and two borrowers with an aggregate fair value of $9 million, and equity and interest in the SBIC Funds eight portfolio companies which had an aggregate fair value of $7.4 million.

As Glenn noted, we consolidated the SBIC Fund into our financial statements beginning December 4, following our acquisition for $8.1 million of those interest in the fund that we did not already own. The weighted average yield to fair value on our debt investments was 8.53% at December 31st including 7.22% on debt investments in our senior loan fund and 13.56% on debt investments in the SBIC Fund. Our average portfolio company loan size was approximately $4 million.

Floating rate loans comprised 85% of our debt investment portfolio at year-end 2013 is all of the loans in the senior loan fund are floating rates, while seven of the eight loans in the SBIC Fund at year-end carry fixed rates. All of our floating rate loans contained LIBOR floors. We had one non-accrual at December 31st, our debt investment in Strata Pathology[ph] which had a fair value of $1.05 million and which has been on non-accrual since the first quarter of 2013.

In mid-December 2013 we closed a senior secured debt investment with a face amount of $12.3 million and repurchased equity interest for $2.4 million in one new portfolio company. We made those investments through the SBIC Fund following its consolidation on December 4. Additionally, earlier in the fourth quarter of 2013, but prior to its consolidation into OFS Capital, the SBIC Fund made senior secured debt investments totaling $10.8 million in two new portfolio companies, and it obtained equity stakes in the same two portfolio companies at an aggregate cost of $0.5 million.

As such, total debt and equity investments by the SBIC Fund during the fourth quarter including both pre and post consolidation periods, amounted to approximately $25.5 million or an average of $8.5 million per month in the October to December period. We made no new investments in the senior loan fund during fourth quarter as we reduced the size of that portfolio to generate proceeds to capitalize the SBIC Fund.

From October 1st through December 31st the outstanding principal balance on our investments in the senior loan fund portfolio declined by approximately $25.3 million going from $213.9 million at September 30th to a $188.6 million at December 31st.

During the fourth quarter, we fully exited five loans and the senior loan fund, including three via refinance and two via loan sales. And those exits accounted for $21.2 million of the $25.3 million in fourth quarter principal reduction in the senior loan fund.

Before we address our statement of operations, please note that since we were not a public company prior to November 7, 2012 comparisons to prior periods may not be applicable in all respects. With that said, we derived approximately $4.5 million in investment income from our portfolio in the fourth quarter of 2013 compared with $4 million in the third quarter with an increase in investment income driven by the consolidation of the SBIC Funds income statement effective December 4. Almost all of the investment income came from interest income on our debt investments that resulted to a $0.1 million in dividend and fee income in the fourth quarter.

Total investment income was $17.1 million for the year compared to $13.4 million in the prior year. The $3.7 million increase was attributed primarily to a full-year of interest income generated by the senior loan fund during 2013, as compared to only nine months during 2012 following our consolidation of the senior loan funds results of operations effective April1, 2012.

On a pro forma basis, we calculate that had the SBIC Fund been consolidated as of January 1, 2013 rather than as of December 4th, total investment income would have been approximately $21 million in 2013.

During the fourth quarter of 2013, we incurred approximately $3.1 million of expenses, compared with $2.6 million in the third quarter, $2.8 million in the second quarter and $2.9 million in the first quarter. Included in the fourth quarter expenses were; $0.9 million in interest expense, including $0.8 million in interest expense on the senior loan fund credit facility, and $41 million in interest expense on the SBIC Funds, SBA-guaranteed debentures.

Results of $1 million in general and administrative expenses, professional fees and administrative fee, $1.1 million in management fees which included $0.9 million in base management fees to our investment advisor and $0.2 million to MCF Capital Management for its duties with respect to the senior loan fund credit facility and $0.2 million in amortization of deferred finance and closing costs on the senior loan fund credit facility.

Included in the $1 million in the fourth quarter of 2013 general and administrative expenses, professional fees and administrative fee were approximately $0.2 million in legal and accounting expenses relating to the SBIC drop-down and SEC exemptive relief processes. Although there were some spill-over of related costs into the first quarter this year, we believe that such expenses which have totaled in excess of $0.4 million should now essentially be behind us.

Total expenses were $11.4 million for the year ended December 31, 2013 compared to $9.3 million in the prior year. Interest expense decreased by $0.8 million primarily due to a decrease in borrowings on our senior loan funds revolving credit facility. Management fee expense and management fees other related parties increased by a net $0.6 million in 2013 compared to the prior year. Specifically, management fee expense increased by $1.2 million in 2013 attributable to a $0.9 million increase in base management fees to our investment advisor as well as reflection in our 2013 statement of operations of a full-year fees to MCF Capital Management compared with only nine months in 2012. While our 2012 statement of operations reflected $0.6 million in the management fees other related parties, which was incurred by the SBIC Fund to its related party investment manager during the period through July 27, 2012, in which the SBIC Fund was consolidated into our financial statements.

Professional fees, administrative fee, and general and administrative expenses increased by $1.7 million in 2013 relative to the prior comparable period. The increase was the result of several factors. First, OFS capitals increased cost as a public company. Second, professional fees incurred in connection with the SBIC Fund drop-down and exemptive relief processes and finally $0.9 million incurred by the company under the administration agreement entered into at the closing of its initial public offering.

Amortization of deferred financing costs increased by $0.5 million in 2013, owing largely due to the termination of the Class B loan facility of the senior loan fund in January 2013 and the resulting write-off of $0.3 million of deferred expenses.

Net investment income for the fourth quarter was approximately $1.4 million or $0.14 per share, in line with the $0.15 per share in net investment income we earned in each of the first three quarters of 2013. Net investment income was $5.7 million or $0.59 per share for the year ended December 31, 2013 and it was $4.1 million for the prior year. We calculate on a pro forma basis that had the SBIC Fund been consolidated as of January 1st, net investment income would have approximated $8.6 million or $0.89 per share in 2013.

For the quarter ended December 31, 2013 we had net realized gains of $2.8 million, which consisted of $0.1 million on the sale of two debt investments in the senior loan fund as well as a non-cash $2.7 million realized gain on acquisition as a result of the acquisition on December 4, of the interest in the SBIC Fund that we did not already own.

Net unrealized loss on investments totaled $3 million for the quarter ended December 31, 2013, comprised of $0.2 million of net unrealized loss on non-control/non-affiliate investments, $1.1 million of net unrealized loss on affiliate investments consisting primarily of $1.2 million of the reversal of the net unrealized gain on the equity interest in SBIC Fund at the December 4, closing date, and $1.7 million of net unrealized loss on our investment in Tangible Software.

For the year ended December 31, 2013, the Company had net realized gains of $2.8 million, comprised of $0.1 million on the sale of three debt investments, as well as the aforementioned $2.7 million realized gain on acquisition as a result of the December 4th transaction. Net unrealized loss on investments totaled $0.9 million for the year ended December 31, 2013, comprised of $0.4 million of net unrealized gain on non-control/non-affiliate investments, $0.5 million of net unrealized gain on affiliate investments, and $1.7 million of net unrealized loss on our investment in Tangible.

For the three months ended December 31st, we had net increase in net assets of $1.2 million or $0.12 per share and we had net increase in net assets of $7.7 million or $0.80 per share for the full-year.

With respect to liquidity, we had $28.6 million of cash and cash equivalents as well as $13.8 million of borrowing availability on the senior loans funds revolving credit facility at December 31st. As of March 14, 2014 we had $29.4 million in cash, including $28.8 million in the SBIC Fund and $12.9 million in borrowing availability on the senior loan funds credit facility.

From December 2nd through December 31, 2013 we borrowed a total of $34 million under the senior loan fund revolver and contributed that amount as capital into the SBIC Fund. We borrowed another $12 million under the senior loan fund revolver in early January of this year and likewise contributed that as capital to the SBIC Fund, which now has $61.4 million of leverageable capital.

Since the SBIC Fund currently has $26 million of SBA-guaranteed debentures outstanding, under SBIC regulations, it has at this time incremental borrowing capacity of $35.4 million. In other words, $61.4 million minus $26 million. Between its $28.8 million in cash and the $35.4 million in borrowing capacity, the SBIC Fund has available to at this time approximately $63 million with which to make investments.

With that, I’ll turn the call back over to Glenn, who will have some additional comments.

Glenn Pittson

Thanks, Bob. We have a strong investment pipeline. However, competition in a general leverage credit market is increasing. And as you would expect, our activities at the lower end of the middle market are not immune from this trend. Our SBIC Fund structured debt and equity products generates good risk adjusted returns. However, these investments typically involve a drawn out timeline. I wonder there’s more to private equity investing versus conventional debt instruments.

Our SBIC Fund investment business targets companies that generate operating cash flow before debt service or EBITDA in the range of $3 million to $12 million. As mentioned in my opening comments, the funds portfolio of companies had an average EBITDA of $5.5 million at December 31st. The funds basic value proposition is that there is a significant demand for capital by private or family owned small businesses were achieving such strategic goals as expansion, as state planning or buying a competitor without giving a control of a Company that management often is built up over many years. We work actively with our SBIC portfolio of companies and typically seek to have a board seat or observer status for each such investment.

Though we would have like to have complete its drop-down conversion sooner, the economics related to our SBIC Fund remain compelling; presently we have $26 million of outstanding debentures with the weighted average interest rate of 3.12%.

To conclude we have built a resilient balance sheet by assembling a diversified asset based funded through match liabilities with medium to long-term maturities. Our senior loan facility from Wells Fargo matures in 2018, and our present SBA debentures begin maturing in 2022. We are looking forward to this year now that we have some major distractions behind us. We have an excellent investment team and we look forward to rewarding our shareholders who have backed us through this process as well as generating an attractive return on the $50 million plus OFS management has invested in the business.

Thank you for your time this morning, and we will now open the phone lines for questions.

Question-and-Answer Session

Operator

(Operator Instructions) And our first question comes from Mickey Schleien from Ladenburg. Please go ahead with your question.

Mickey Schleien – Ladenburg

Yes, good morning Glenn.

Glenn Pittson

Good morning.

Mickey Schleien – Ladenburg

I wanted to get a sense of where you see the best risk adjusted returns in the SBIC. It steams with a debt to EBITDA ratio of 2.4 you’re focused on first lien, is that still where you prefer to be, and also how much equity are you able to command in these investments in the current market?

Glenn Pittson

We are basically doing, well I guess we talked about unitranche loans and restructured debt loans, I mean our leverage really doesn’t go down as far in these companies, but they are not necessarily -- there are certain risk associated being working with smaller companies hence our interest in kind of keeping the leverage down to a manageable level to make sure they can survive the hit of having a bunch of leverage on their balance sheet. So we’re not getting senior debt returns on these type of companies. I wouldn’t try to fool anyone and say that we’re avoiding risk by saying it 2.5 times leverage, there is certain other risks associated with just dealing with smaller companies. So we try to balance that as we put together our transactions. As far as equity in these types of companies, I mean really it does range. I think to simply characterize it, I think we went from 3% of an entity from -- we had nothing in some deals that are more coupon oriented (inaudible) that we’ve got some term sheets out in that type of investment and then some other deals we’re up to (indiscernible) which is bigger, 20, 29. So we’re kind of across the board, but we’re always using the equity component to kind of level out the rate of return on the overall investment kind of bring it up into the higher teens whenever we have a chance to maybe even low 20s.

Mickey Schleien – Ladenburg

Okay, that’s very helpful. Just a follow-up question, within the SBIC I wanted to get a sense of how those borrowers are doing in terms of their revenue growth and the margins, and how do you approach underwriting with them, with the prospect of higher interest rates down the road?

Glenn Pittson

Well most in the SBIC portfolio as far as interest rates go these are generally all fixed rate investments. So the SBIC Fund kind of, that capital structure is set and as we start to underwrite it we always get the business plan, we evaluate what type of risk we see in there and then we run our own financial models and determine, try to use our best, our experience to estimate what can go wrong, what's in the realm of possibilities as far as what can go wrong, what should be expected because I have never seen a management business plan that’s actually functioned according to it's model that they’ve give us. So we try to test it up and down to make sure it can sustain some swing in the business prospects. So, as far as underwriting we try to create a bit of cushion there and make sure there’s enough interest coverage and debt coverage, and as I mentioned in the SBIC Fund side the interest rates would generally always stick, so we don’t have to test the sensitivity to interest rates, unless it's a type of entity that might have it might be consumer related, we got to think about whether or not increasing interest rates might affect the consumer or something like that. We do take a look as far as our existing portfolio in the, you see in the loan fund and we do take a look at interest rate swings. We haven't had to sensitize them too much because Bob mentioned in the course of his presentation all our deals have floors which are well above today's current LIBOR rates -- LIBOR based, LIBOR is about 24, 25 basis points, we’re about, Bob what's the number?

Robert Palmer

Probably a 125, 140 a average floor.

Glenn Pittson

Yes, so we have about a 100 basis point swing before anything would even start to happen to these companies because we’re already paying that and they’re paying with flexibility. But we do look at that and we look and see if there’s interest rate sensitivity involved there, but right now I don’t see a lot of interest rate risk filed into the portfolio, but now that I have uttered that in the public forum, I’ll probably get (inaudble), but I think we got it pretty well covered.

Mickey Schleien – Ladenburg

And how are your borrowers doing in general, just in general trends in terms of revenues and EBITDA and in margins?

Glenn Pittson

Well thinking about our last portfolio review and Bob stays really on top of these as he values the companies. I think it pretty much; no one is knocking to cover off the ball. I think that would be safe to say. We have one deal that’s kind of dealing with the government contracting situation in the market just that lot of people are dealing with. Our Strata deal, dealt with just flat out at risk we’ve decided to take which if it came back and bit us which was reimbursement rates that are somewhat been changed under the evolving healthcare landscape. So, but across the board, I’d say they’re pretty much tracking close to their original plans. I don’t see any really precipitous drops in any across the board in context with revenues. I see Bob just pulled out one of our summary sheets on earnings, I don’t know if you have anything you want to add?

Robert Palmer

No, that’s right. I mean the performance has generally been sound across the portfolio with a couple of exceptions which we called out including strata most especially through the senior loan fund leverages is a bit higher than in the SBIC Fund. As you would expect the weighted average senior leverage and again all of our loans in that portfolio are first lien senior secured. Senior leverage is about 3.5 times, but those are typically larger companies than you’ll find in the SBIC Fund the senior loan fund has weighted average EBITDA of about $23.5 million and average revenues of just over $125 million. So they’re very much middle market, but definitely a greater size.

Mickey Schleien – Ladenburg

Thanks for your time this morning.

Glenn Pittson

Thank you.

Operator

(Operator Instructions) And our next question comes from Allison Taylor from Oppenheimer. Please go ahead with your question.

Allison Taylor - Oppenheimer & Co. Inc.

Hi, good morning and thanks for taking my questions. Just briefly, I just want to touch on how we should think about the senior loan fund going forward, is the level where it's at now the run rate of kind of stability that we should think about, does that kind of anchors the portfolio going forward as you grow the SBIC Fund?

Glenn Pittson

I would say that the priority, absolute clear priority in the firm is to focus on the SBIC Fund. So the flex point in our capital structure with the amount of capital we have in there, the point -- the flex point really is the senior loan fund, so that could be reduced a little bit over time as we build the SBIC Fund and make sure that’s fully capitalized to take advantage of the SBA debenture program.

Allison Taylor - Oppenheimer & Co. Inc.

Okay. Forgive me if I missed it, but right now I think you guys said that you had $26 million of SBA debt outstanding?

Glenn Pittson

Yes.

Allison Taylor - Oppenheimer & Co. Inc.

And then $35.4 million left? So, total portfolio growth can be from the point that you have on it can be another $65 million?

Glenn Pittson

Well, as we move capital around and we get our final capital certificate in from the SBA we fully expect to have a lot more clarity on our potential borrowings and we fully expect, I have been building the company around the fact that we will have $124 million in incremental borrowing capacity, so the difference between $150 million and $26 million is what I expect to have over time, and that’s where we’re focusing all our energies on as far as allocating capital to make sure we can avail ourselves with that.

Allison Taylor - Oppenheimer & Co. Inc.

Okay, understood, great. I appreciate it. Thanks very much.

Glenn Pittson

You are welcome.

Operator

And our next question comes from J.T. Rogers from Janney Capital Markets. Please go ahead with your question.

J.T. Rogers – Janney Capital

Hi, good morning. Thanks for taking my questions. I just, well Glenn just a follow-up on that comment you just made, the final capital certificate from the SBIC, now what's sort of the timing on that and do you guys have any visibility into when you would receive approval for that?

Glenn Pittson

Now I would say very shortly, it's been in for a while so we’re expecting everything we need to function we have right now, so not really pressing for anything. We haven't actually talked to them weekly so it's not -- we’re expecting that to come in shortly.

J.T. Rogers – Janney Capital

Okay. And then it sounds like you have adequate capital to fund the remaining equity in the SBIC obviously plenty of cash on hand and debentures on hand to fund current growth right now, but is there anything that would prevent you from being able to fully fund the equity in the SBIC?

Glenn Pittson

No, I don’t see anything right now if we have a crisis and it started sustaining huge losses in the senior loan fund could get in the way of anything, I am certainly not expecting that but there is always that type of risk in there. But I think we have the availability under our current lines. There’s a certain amount of using liquidity might be an inappropriate word but I’ll use it anyhow. There’s a certain amount of liquidity in that portfolio because it does turn on a fairly regular basis, but we have amortization payments coming in on a regular basis as well as a certain amount of refinancing that occurs as the months go by. So, we see that cash always kind of coming up and becoming available, what we put together the capital as an example and we put together the capital, put the original amount of money in with the -- close to December 4th, net capital came, we got it pretty easily over the month of December. So we’re pretty comfortable about our cash position, our ability to generate cash and make sure that the fund was capitalized, because I mentioned earlier that is our priority right now.

J.T. Rogers – Janney Capital

Okay and then just one last question. You mentioned ramping to $10 million originations that you hired new investment professionals to the SBIC, what's your origination outlook right now with the current team?

Glenn Pittson

I think that the current team, I am just about there. I think with the hires that just came in I’ve got another couple of -- at least one more person starting in two weeks in New York, so I think I am in pretty good shape to be able to get to that point. We currently have reasonable backlog of term sheets and letters of intent out in the market place, about six of them there, so hopefully that will start to tick up and we’ve got a couple of other deals that people are talking. So, I feel pretty good that the morning meetings on Monday seem to take a bit longer then they used to. There’s a heck of a lot more priority. This transaction in December just made it a lot easier on the team because there is just, now everything is black and white for people about, what money is available and where can you put it. So, I can’t underestimate the value of that to my partners and the rest of the SBIC team. So we’re looking forward to kind of getting that rate to up to at least $10 million, and I think it's a pretty reasonable request to put out to my folks and I think actually even the senior management side won't be distracted anymore. So, we including they would be able to be out there a bit more trying to generate good quality yield flow.

J.T. Rogers – Janney Capital

Okay, great. And just what's your pace through the first quarter?

Glenn Pittson

Right now as of today we did one small transaction up to this point in the quarter and as I mentioned we probably have about six LOI’s and term sheets out in the market aggregating a little over 40’ish million dollars.

J.T. Rogers – Janney Capital

Okay. Thanks a lot for taking my questions.

Glenn Pittson

Very much welcome.

Operator

And our next question comes from Troy Ward from KBW. Please go ahead with your question.

Troy Ward - KBW

Great. Thanks for taking my question guys. Just a follow-up on Mickey’s commentary about kind of what you’ve seen in the market. Can you provide some color specifically in the lower middle market, what you’re seeing from competition; is it more on the pricing side or the structure side?

Glenn Pittson

Actually it's both, I mean there is the noticed banks seem to be getting a little more aggressive about going accepting higher leverage points in their lending activity have been feeling pressure on the pricing side, it's been a big conversation for us in our meetings about giving up on that side. I think certainly being we have so much capital risk in this company. Also as a manager I think we’re very sensitive to moving out on the risk factor, I mean we have been trying to keep good control over that at this point and certainly willing to give up a little bit on the pricing side since we think we tend to, we’ve always been up to this point pressing our deals pretty thoroughly. So, structurally I think there is more competition; it's been pretty remarkable about how far people will go out on the leverage side both on the bank side, and then are the BDC and SBIC Funds that we run into. And then there is pressure on pricing. But then again, we were talking last night about this, we do believe that the risk reward formula still is better that we see traditionally over the last 15 years I mean still -- I think you’re still getting superior returns for the risk you take right now. So we’re not particularly over concerned about the state of the market at the moment. And we’re more of a direct origination group and we are a small part of the overall economy and the overall lending environment for this. We always feel there’s really no excuse for us. We need to be generating much more deal flow and good quality stuff.

Troy Ward - KBW

Okay. And then looking at the leverage in your portfolio obviously you have done a nice job of staying true there and keeping the leverage under control. But can you talk about maybe like a call protection rather kind of the nuances of the structure, what does call protection in your portfolio look like over the last let’s say six months of origination versus the same period in 2012?

Glenn Pittson

Well, I mean its a little bit apples and oranges. In 2012 the portfolio was essentially, the senior loan fund those are all at floating rates with either no prepayment fees or prepayment fees that will burn off after six months. So, I think right now in that portfolio Troy there’s no prepayment fees in the SBIC Fund though on the fixed rate side those are typically going to be 5, 4, 3, 2, 1 type of structures.

Troy Ward - KBW

Okay, great. And then one final one on the origination fees, what are you seeing there on the upfront fees?

Glenn Pittson

Well they’re kind of controlled by the SBIC. So at the end of the day I have the regulations there saying we totally function under that. So, it's 1.5 to 2’ish is kind of the range that we’re looking at on upfront fees. Bob, is that number right?

Robert Palmer

That’s about right.

Troy Ward - KBW

Thanks guys.

Glenn Pittson

You’re welcome.

Operator

And we have a follow-up question from Mickey Schleien from Ladenburg. Please go ahead with your question.

Mickey Schleien – Ladenburg

Glenn, I just wanted to understand in the SBIC Fund, can you structure your unitranche deals where you partner with perhaps original bank and sell them the first out-piece, so you generate better yields in that portfolio or is that not possible?

Glenn Pittson

Oh, no absolutely. We put up those term sheets on a regular basis. We actually have a few other creative ideas, well that’s not creative, that’s kind of old school. But we know we had some other ideas as far as working with kind of a low cost capital that’s available to our investments through the banking community. So, yes we do that.

Mickey Schleien – Ladenburg

And so do you have a group of existing banks that you work with or is it something you’re developing?

Glenn Pittson

We have, it's ever revolving, right? So the old group we had already, we’ve been in business 15 years. The old group teams have come and gone. I think we’ll have a pretty clear idea. I think there’s -- I don’t know (indiscernible) argue with me, but just try at least three or four institutions that we pick up the phone and call and we get a good feedback and we are expanding that, there’s like two more that we have been sharing information with and talking by an inter creditor arrangements because you shouldn’t be bring them in unless you had some real discussion on either creditor side because that could really, really sign the -- your ability to get a transaction done the right way. So we’re trying to -- I think we have a clear idea for three or four, we’re going to get in a couple of more (indiscernible) idea spending a lot of time in California bank market to see who’s doing what so and Bob do you have anything to add to that?

Robert Palmer

No, I mean that’s right. In fact the transaction that we closed in December through the SBIC Fund in fact, it is a first lien loan, but we’re the last out-piece of that loan Mickey.

Glenn Pittson

That’s a good point.

Mickey Schleien – Ladenburg

And so Bob is that the only one you’ve done so far? Where you’ve sold the first out-piece?

Robert Palmer

Yes, that’s the only one so far Mickey.

Glenn Pittson

And one of our early deals, before we have someone in front of us that’s right there are standalone contract because of existing relationship. So we have take into account what the size and facility, because when we look at letting people get in front of us, in our SBIC Fund type deals, we really prefer to be in a position where we know at some future point of time we can buy them out if there is a need for some restructuring work, we always want to make that available. I think in most of our transactions were there is something in front of us, we generally have the right to bottom out it par to keep control over and avoid free falls and things of that nature. So we’re pretty cognizant based on our past experience and make sure we cover all the basis as far as structure goes whenever there is another creditor and other material lender in there with us.

Mickey Schleien - Ladenburg

So the weighted average yield in the SBIC portfolio, I think you said was around 13.5%. It sounds like there could be some upside to that if you work to more meaningfully sell up the first out-pieces, am I correct?

Robert Palmer

I wouldn’t say so, Mickey. I mean we’re getting fixed rate yields on those that that are relatively high. It could go up a little bit, but we really can’t sell any because in terms of the financing it’s the last thing our balance sheet needs.

Mickey Schleien - Ladenburg

No, I’m saying on new deals.

Glenn Pittson

Yes, on new deals we’re definitely always looking at that in order to kind of -- as we were mentioning, trying to give up a little bit on pricing, maybe one way to do that is just not (indiscernible) coupon, but by trying to manufacture it by giving someone a little bit of the top side of the leverage point, yes, some 0 to 1.5 time leverage with them in, it would help us three or something like that and you can high walk that. We are always looking at that. We’ve done that. I think some people treated it as a new thing, but we are glad, we’re doing it 12 years ago. So we’re pretty comfortable with that and it is a good way to kind of use your returns.

Mickey Schleien - Ladenburg

Okay. Thank you.

Operator

And at this time, we will conclude today’s question-and-answer portion of today’s conference call. I will now hand the call back over to Glenn Pittson, Chief Executive Officer for his closing remarks.

Glenn Pittson

Okay. Well, I appreciate everyone participating in the call. Thanks for all listening in, thanks for all the questions. We look forward to the coming year. Think we got the same set up the right way and hopefully we will be able to reward our shareholders. Hopefully this call has been done early enough for New York guys to participate in St. Patrick's Day. Thanks again for every -- thanks again for listening in everybody and have a good day.

Operator

Ladies and gentlemen, that does conclude today's conference call. We do thank you for attending. You may now disconnect your telephone lines.

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