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Ares Capital (NASDAQ:ARCC)

Q1 2011 Earnings Call

May 03, 2011 11:00 am ET

Executives

Penni Roll - Chief Financial Officer and Principal Accounting Officer

Michael Arougheti - Principal Executive Officer, President, Portfolio Manager, Director, Member of Investment Committee and Member of Underwriting Committee

Analysts

Vernon Plack - BB&T Capital Markets

Faye Elliott - BofA Merrill Lynch

Sanjay Sakhrani - Keefe, Bruyette, & Woods, Inc.

Richard Shane - JP Morgan Chase & Co

Arren Cyganovich - Evercore Partners Inc.

Joel Houck

Jasper Burch

John Stilmar - SunTrust Robinson Humphrey, Inc.

Greg Mason - Stifel, Nicolaus & Co., Inc.

John Hecht - JMP Securities LLC

David Miyazaki

Operator

Good morning. Welcome to Ares Capital Corporation's Earnings Conference Call. [Operator Instructions] As a reminder, this conference is being recorded on Tuesday, May 3, 2011.

Comments made during the course of this conference call and webcast and the accompanying documents contain forward-looking statements and are subject to risks and uncertainties. Many of these forward-looking statements can be identified by the use of the words such as anticipates, believes, expects, intends, will, should, may and similar expressions. The company's actual results could differ materially from those expressed in the forward-looking statements for any reason, including those listed in its SEC filings. Ares Capital Corporation assumes no obligation to update any such forward-looking statements. Please also note that past performance or market information is not a guarantee of future results.

During this conference call, the company may discuss Core earnings per share, or Core EPS, which is a non-GAAP financial measure as defined by SEC Regulation G. Core EPS, excluding professional fees and other costs related to Ares Capital Corporation's acquisition of Allied Capital Corporation is the net per share increase or decrease in stockholders' equity resulting from operations, less professional fees and other costs related to the Allied Acquisition, realized and unrealized gains and losses, any incentive management fees attributable to such realized gains and losses, any income taxes related to such realized gains and other adjustments as noted. A reconciliation of core EPS, excluding professional fees and other costs related to the Allied Acquisition to the net per share increase or decrease in stockholders' equity resulting from the operations, the most directly comparable GAAP financial measure can be found on the company's website at arescapitalcorp.com. The company believes that Core EPS provides useful information to investors regarding financial performance because it is one method the company uses to measure its financial condition and results of operations. Certain information discussed in this presentation, including information relating to portfolio companies, was derived from third-party sources, has not been independently verified and accordingly, the company makes no representation or warranty in respect of this information.

At this time, we would like to invite participants to access the accompanying slide presentation by going to the company's website at www.arescapitalcorp.com and clicking on the Q1 '11 Investor Presentation link on the homepage of the Investor Resources section of the website. Ares Capital Corporation's earnings release and quarterly report are also available on the company's website.

I will now turn the conference call over to Mr. Michael Arougheti, Ares Capital Corporation's President. Mr. Arougheti, you may begin.

Michael Arougheti

Great. Thank you, operator. Good morning to everyone, and thanks for joining us. I'm joined today by the Senior Partners of Ares Management's Global Private Debt Group and members of our investment advisors and investment committee, Eric Beckman, Kipp deVeer, Mitchell Goldstein and Michael Smith. Our Chief Financial Officer, Penni Roll; and Carl Drake and Scott Lem, who Head our Investor Relations and Accounting teams, respectively.

I hope you've had a chance to review our first quarter earnings press release and our first quarter investor presentation posted on our website. We'll refer to the presentation later on our call. As in past calls, I'd like to start with a brief discussion of current market trends and how they influence our portfolio and financial management strategy. I'll then highlight a few items from our first quarter and review our investment strategy before turning the call over to Penni, who will take you through our quarterly results in greater detail. Finally, I'll cover our recent investment activity, the state of our current portfolio and update you on our backlog and pipeline before taking questions.

As we discussed in detail on our last call, strong liquidity continues to flow into the broadly syndicated leverage loan markets, influencing pricing and structure on new transactions. Through April, inflows into retail loan funds over $18 billion have set a new record, already surpassing full year 2010 levels. First quarter loan repayments were also exceptionally strong, nearly doubling from fourth quarter levels per S&P data. This cash from retail loan funds and loan repayments created additional demand for bank loan assets at a time when new issue loan supply was sharply lower than fourth quarter's levels. Consequently, spreads tightened and leverage increased, all against the backdrop of a greater appetite for risks. Although the market briefly became more rational in March brought by turmoil in Japan, Europe and the Middle East, strong fund inflows have resumed driving ever more liquidity into the market.

For a period of time, our core middle market, defined as companies with $20 million to $50 million in EBITDA, was more insulated from these pressures. However, this is no longer the case. Although current market data illustrates that the middle market for leverage loans still generally provides premium pricing and lower leverage compared to the broadly syndicated leveraged loan market, the middle market has too experience higher leverage and more aggressive pricing. Various data for middle-market leveraged loans corroborate pricing declines of 50 basis points on senior debt yields, as well as the expansion of total and senior leveraged multiples by about 1/2 of a turn of EBITDA.

It should be clear though that one cannot compare leveraged multiples across the middle-market in a vacuum. Leveraged multiples vary based upon the stability and the growth characteristics of the underlying borrower cash flows, as well as overall company size and industry. We do believe that if someone is looking for outsized returns in the current market environment, then they have to take outsized risk, expressed as either greater leverage, tighter pricing or weaker borrower fundamentals. And this is not something that we're prepared to do. Although overall broadly syndicated leveraged loan transaction volume was stronger year-over-year in the first quarter, over 70% of the total was comprised of refinancing and recapitalization activity, the highest level on record.

On the positive side, leverage buyout and merger and acquisition loan volumes have increased in April, and a forward calendar of M&A loans is at its highest level since S&P began recording this data in January of last year. This increase in M&A volume is a welcome sign after the significant slowdown in M&A related volume in the first quarter. At the current moment, we are definitely witnessing a higher level of activity with new companies, as opposed to opportunistic refinancings to existing portfolio companies. Naturally, a sustained increase in new money loans could help alleviate some of the pressure from continued inflows into the bank loan asset class.

As we search for the most attractive risk adjusted returns in the current market, we're focusing on high-quality franchise businesses that have demonstrated solid relative performance during the last economic downturn. We continue to focus on senior secured floating rate assets, including stretched senior and unitranche loans, funded both on our balance sheet and through the Senior Secured Loan Program. You'll notice that approximately 94% of our originations in the first quarter were in these asset classes. We believe senior secured loans continue to offer good relative value as spreads are still approximately 150 basis points wider than historical averages despite a lower-than-average default outlook. With short-term interest rates at about 0.3%, we like the risk reward of owning floating rate investments. Of course, we also like the lower leverage, greater covenant protection and higher attachment points provided by first lien and unitranche debt.

As we have said in the past, our markets can be quickly impacted by unforeseen events and there are potential market drivers that could disrupt future supply and demand. Exogenous factors including eurozone sovereign debt woes and political instability in the Middle East could all reverse current market trends. A large amount of middle-market debt maturing, stricter bank regulatory requirements and/or the significant overhang of uninvested private equity could also alter the current market environment. Therefore, despite the current supply/demand dynamic, it is important to maintain discipline at this point in the cycle as we have in past cycles. Our current investment strategy focuses on utilizing our broad direct origination capability to uncover the largest set of opportunities so that we can remain highly selective. Leveraging our large scale and middle-market and our flexible capital to compete for the highest quality companies. Thirdly, using our incumbency to stay invested in our strongest portfolio of companies and maintaining adequate capital availability to take advantage of future opportunities in dislocations, if and when they arise.

While the general liquidity in the capital markets has clearly pressured risk-adjusted returns, we've taken advantage of the same liquidity to secure attractive long-term capital and to improve our financial position. Since our last call, we accessed the convertible debt markets for a second time, raising $230 million on overall better terms in our first convertible note offering in January, including a coupon of 5 1/8%. We used a portion of the proceeds from this offering to redeem our final remaining near-term maturity of $161 million of 6% bonds that we assumed in the Allied Acquisition that were set to mature in April 2012. Following the redemption, which took place in April, the weighted average maturity of our indebtedness has been extended even further from 12.7 years to 14.1 years. And we now have no maturities of outstanding term indebtedness until 2016.

While our recent issuances of fixed rate unsecured debt capital have increased our weighted average stated cost of debt from 5.2% as of the end of 2010 to 5.7% as of the end of the first quarter, these actions have significantly reduced the refinancing risk on our balance sheet and increased the flexibility of the investments that we're able to make over a full cycle. These capital raising actions may also position us to benefit from a potential rise in interest rates.

Now let's turn to our results. We announced Core earnings per share of $0.31 for the first quarter and GAAP earnings per share remain strong at $0.61, reflecting solid net realized gains and net portfolio appreciation. Our GAAP earnings, along with the equity component of our convertible notes, contributed to our sixth consecutive gain in net asset value to $15.45. We also continue to make substantial progress on the rotation of the legacy Allied portfolio, which I'll discuss in detail later in the call.

We believe our credit quality and investment performance track record remains very strong as evidenced by the net realized gains for the first quarter of $0.26 per share, the net unrealized appreciation on our portfolio of another $0.11, a moderate level of non-accruals and an overall free rating, given by our investment advisor on the combined portfolios.

From our IPO in 2004 to the first quarter of 2011, our realized internal rate of return on our investments exited was 15% and our cumulative realized gains have exceeded our cumulative realized losses by approximately $113 million.

Penni will cover our quarter in detail in a minute but I thought I'd first put our results and strategy in a broader context. Through a combination of investment and portfolio decisions, as well as balance sheet financing initiatives, we managed ARCC to deliver strong and consistent risk-adjusted returns to shareholders across a full credit cycle. In doing this, we leveraged the information gathered across the entire global Ares platform. However, this offer requires balancing many competing goals. For example, we need to balance growth in Core EPS with the need to remain disciplined in competitive market. In overheating market environments, we may choose to invest in more conservative, initially lower yielding senior secured debt to defensively position the portfolio versus investing in higher risk, initially higher-yielding unsecured and subordinated fixed rate debt securities. While this asset selection clearly has an earnings impact in the short term, we believe it increases the probability of investment outperformance through the full credit cycle, given the lower expected default rates and higher expected recoveries for these more senior assets. We believe we demonstrated the success of this relative value investment strategy through the last credit cycle.

Similarly, there's a natural trade-off between maximizing leverage to drive Core EPS and realizing gains on asset sales of non-core securities in a liquid market environment. A perfect example of this was our recent sale of CLO securities whereby we generated an approximate $100 million realized gain at the expense of about $0.03 per share in run rate quarterly earnings.

We also believe that we've shown that it's important to monitor the debt and equity capital markets and access them when they're offering us advantageous pricing and structural alternatives despite potentially higher cost in the short term. These windows of opportunity are not always open and the timing of capital raises is therefore not always ideal if looked at in the context of a particular quarter's earnings.

I'd now like to turn the call over to Penni Roll, our CFO, for more detailed comments on our first quarter financial results. Penni?

Penni Roll

Thanks, Mike. For more details on our financial results, we refer you to our Form 10-Q that was filed this morning with the SEC. To begin, please turn to Slide 3, which is the financial and portfolio highlights slide in our presentation.

As Mike mentioned, our basic and diluted Core earnings per share were $0.31 per share for the first quarter of 2011, an $0.11 per share decrease of our Core EPS of $0.42 per share for the fourth quarter, but a $0.03 per share increase over the same quarter a year ago. Our first quarter 2010 and fourth quarter 2010 Core earnings excluded $0.03 and $0.01 per share of Allied Acquisition related professional fees and other costs, respectively.

The decrease in Core earnings per share of $0.11 as compared to the prior quarter was primarily due to lower capital structuring service fees, lower interest income and higher interest expense. Capital structuring service fees declined about $0.07 per share, primarily reflecting a greater amount of refinancing transactions of Ares Capital portfolio companies, which generated lower transaction fees. As we have said before, these fees may vary substantially from period-to-period, depending on the level and mix of new investment opportunities and the level of upfront structuring fees available in the market. Interest income was lower by about $0.02 per share due to the late February sale of the higher yielding CLO investment, which resulted in a $99 million net realized gain.

Our interest expense increased about $0.03 per share primarily from the convertible notes issuances in January and March, including about $0.01 per share in non-cash OID accretion associated with the implied equity component of these converts. Note that there was some redundant interest expense in the quarter from carrying the 2011 and 2012 Allied bonds through the redemption notice periods that will not recur now that the 2011 and 2012 bonds have been fully repaid. These reductions to core earnings per share were partially offset by lower incentive fees related to net investment income of approximately $0.01 per share.

Our net investment income for the first quarter was $0.24 per share compared to $0.32 per share in the fourth quarter and $0.25 per share in the first quarter of 2010. It is important to highlight our net investment income and GAAP earnings per share were again impacted by non-cash incentive management fees, as the first quarter included an accrual of about $15.1 million or $0.07 per share for capital gain related incentive fees, as compared to an accrual of $15.6 million or $0.08 per share in the fourth quarter of 2010 and 0 in the first quarter of 2010.

As a reminder, under our investment management agreement with our investment advisor, we only pay capital gains incentive fees if through the end of the most recently completed fiscal year, aggregate cumulative realized capital gains and losses, less aggregate cumulative growth unrealized capitals depreciation, plus cumulative capital gains incentive fees previously paid is positive.

As of March 31, 2011, there was no capital gains incentive fee payable to our investment advisor. However, GAAP requires us to also consider cumulative aggregate unrealized capital appreciation solely for the purpose of determining whether our capital gains incentive fee should be accrued. As a result of the significant net realized and unrealized capital gains recognized in the first quarter, GAAP required us to make this additional capital gain related incentive fee accrual. Unlike our GAAP earnings and net investment income per share, our core earnings per share excludes any accruals or reversals of such accruals for capital gain related incentive fees.

We experienced net investment gains for the first quarter of 2011 of $0.37 per share, with $0.26 per share of net realized gains and $0.11 per share of net unrealized gains. Our net investment gains for the first quarter, coupled with our core earnings, contributed to our GAAP earnings of $0.61 per share. After paying our $0.35 per share first quarter dividend and adjusting for the equity component of our convertible notes of $0.27 per share, our net asset value was $15.45 per share, a roughly 33.6% increase from last quarter.

Despite the reduced level of market transaction volume for most of the quarter compared to the fourth quarter, we made significant total commitments in an aggregate amount of $502 million. However, these commitments were largely to refinance or recapitalize existing portfolio companies, with only 3 portfolio companies that were new to Ares Capital during the first quarter, including 1 investment made through the Senior Secured Loan Program.

We experienced approximately $273 million in excess in repayments of commitments from the core ARCC portfolio, resulting in net realized losses of approximately $33 million including 1 loan, which was non-accrual. We had significant exit in repayment activity in the legacy Allied portfolio, totaling approximately $294 million in the quarter, resulting in net realized gains of $95 million. Our exit in repayments of commitments more than offset our new commitments resulting in a reduction of our net commitments by approximately $65 million.

We ended the quarter with an investment portfolio of approximately $4.3 billion at fair value in 154 portfolio companies. This represented a net reduction of 16 portfolio companies since last quarter. We continue to focus on reducing the combined number of smaller or non-core names in the portfolio, with a continued emphasis on shrinking the legacy Allied portfolio.

Our quarter end portfolio at fair value was comprised of approximately 43% of senior secured debt securities, with 28% in first lien and 15% in second lien debt investments, 19% in senior subordinated debt, 3% in CLO investments, 18% in equity and other securities, 16% in subordinated notes in the Senior Secured Loan Program, which was comprised of 22 different borrowers as of quarter end, and 1% in commercial real estate.

Now I would like to walk you through the changes in our yields and investment spreads for the quarter. From a yield standpoint, our weighted average yield on debt and income producing securities at amortized cost decreased from 13.2% to 12.8% quarter-over-quarter, partially reflecting the sale of the higher yielding CLO security. Our weighted average stated cost of debt capital increased from approximately 5.2% to 5.7% quarter-over-quarter, primarily due to the reduction in borrowings under our lower cost revolving credit facility in favor of higher cost but longer term fixed rate convertible notes. As of March 31, 2011, we had no outstanding borrowings under our lower cost floating rate revolving facility. Going forward, our aggregate weighted average funding costs will be a function of usage and underlying interest rates on these facilities as we began to utilize them again.

On Slide 6, we have set forth our fixed and floating rate assets and our non-accrual statistics by portfolio. On a combined basis at fair value, our percentage of fixed rate debt assets decreased from 38.4% at the end of the quarter--fourth quarter, to 29.2% at the end of the first quarter of 2011. Over this same period, our floating rate debt assets on a combined basis increased fairly significantly from 43.3% to 50.2%, reflecting our emphasis on this asset class. As of March 31, 2011, all else equal, our earnings would be positively impacted by an increase in interest rates. More information on that is available in our 10-Q.

Please stay on Slide 6, and I will touch on our non-accrual statistics. Core ARCC portfolio's non-accrual statistics increased slightly from 2.3% at cost and 0.3% at fair value at the end of fourth quarter to 2.6% at cost and 1.1% at fair value at the end of the first quarter, measured as a percent of the combined portfolio. The net number of non-accruing investments within the core ARCC portfolio remained the same, as the exit of 1 investment on non-accrual was offset by 1 new non-accruing investment. As shown, the legacy Allied portfolio's non-accruing investments increased from 1.5% at cost and 1% at fair value to 2.2% at cost and 1.5% at fair value as a percent of the combined portfolio over the same time period.

While we exited 2 portfolio company investments on non-accrual, 2 new issuers and 3 investments in total were placed on non-accrual. For the entire portfolio, total non-accruals increased quarter-over-quarter by approximately 1% at cost to 4.8% and by just over 1% at fair value to 2.6%. Overall, on a net basis, we ended the first quarter with a total number of issuers on non-accrual unchanged with just 1 more investment on non-accrual. Therefore, the modest increase in our non-accrual statistics was primarily driven by the size of 1 new non-accruing investment, which represented approximately 1% of the portfolio at cost and approximately 0.9% at fair value.

Now turn to Slide 9, and I'll provide more detail behind the net gains for the first quarter. Net realized gains were $62.6 million for the quarter, primarily driven by the $99 million net realized gain on the sale of the legacy Allied CLO investment, offset by losses realized largely within the core ARCC portfolio. On the other hand, our total unrealized gains of $22.2 million were largely generated by appreciation within the core ARCC portfolio. These net unrealized gains were primarily driven by appreciation of certain structural products investment and to a lesser extent, stronger performance and improved asset values at several portfolio companies within the core ARCC portfolio.

Slide 10 shows a summary of our indebtedness at quarter end. As of March 31, we had approximately $2.8 billion in committed debt facilities with a weighted average maturity of 12.7 years and a weighted average stated interest rate of 5.7%. On this date, we had approximately $1.5 billion in aggregate principal amount of debt outstanding, with no amounts outstanding under our 2 revolving facilities with total capacity of approximately $1.2 billion, subject to borrowing base and leverage restriction.

We also had cash on hand of approximately $246 million at quarter end. We believe that our liquidity level and the current favorable structure of our indebtedness are highly strategic for us. As discussed on our 2010 year end call, we completed a $575 million convertible note offering in January. And as Mike stated earlier, we completed a $230 million convertible note offering in March. As a result of these offerings, we repaid our borrowings under our 2 revolving facilities and elected to redeem our 6 5/8% and 6% unsecured notes maturing in July 2011 and April 2012, respectfully (sic) [ respectively ], totaling about $462 million in the aggregate. The 2011 notes were redeemed in March and the 2012 notes were redeemed in April.

As previously discussed, we've also extended the maturity on our $400 million revolving funding facility from 2013 to 2016. Our debt-to-equity ratio at quarter end was 0.45x based on the carrying amount of our debt, which when reduced by available cash and cash equivalents, declines to an even more conservative 0.37x. We will seek to reach our targeted leverage ratio of 0.65 to 0.75 over time, but there can be no assurance that this will be achieved since it will be depend on, among other things, the availability of attractive investment opportunities, as well as our own risk tolerance.

Finally, as you may have seen from our press release this morning, we declared our second quarter dividend of $0.35 per share payable on June 30 to shareholders of record on June 15. We have now paid quarterly dividends of at least $0.35 per share for 21 straight quarters, dating back to the first quarter of 2006.

Now with that, Mike, I'll turn the call back to you.

Michael Arougheti

Great. Thanks, Penni. I'll say a few words about our recent investment activity, discuss our portfolio rotation initiatives on the legacy Allied portfolio, go through some performance statistics and then highlight our backlog and pipeline before concluding. Folks, if you could turn to Slide 14. You'll see in the first quarter, we made 16 investments, 2 to new portfolio companies, 10 to existing portfolio companies and 4 investments through the Senior Secured Loan Program to fund investments in 4 separate companies. For these new commitments, 13 were sponsored transactions and 3 were non-sponsored transactions.

On Slide 15, you can see that 70% of our investment commitments were on senior secured floating rate debt and 24% were in the Senior Secured Loan Program also to fund the senior secured floating rate debt. This asset allocation reflects our current portfolio strategy of focusing on senior secured floating rate assets in the current market.

Now let's turn to Slide 16, and I'll highlight our cumulative progress, rotating and repositioning the legacy Allied portfolio through the end of the first quarter, which marks 1 full year following the Allied acquisition. The size of the total legacy Allied portfolio at fair value stood at $1.19 billion at fair value at the end of the first quarter versus $1.83 billion at fair value on the acquisition date of April 1. However, this doesn't tell the whole story. If you look at the reconciliation at the bottom of this slide, you'll see that during the year, since we acquired Allied, we've generated $927 million in cash from exits and repayments of investments in the legacy Allied book, including net realized gains of about $124 million. This represents an aggregate cash flow, internal rate of return on the exited Allied investments of approximately 61% and these net gains and returns don't take into account the roughly $196 million purchase accounting gain that we booked on the Allied Acquisition.

In addition to these realized gains, we've also benefited from $26 million of net unrealized appreciation reflecting continued stability, if not improvement, in the underlying legacy Allied portfolio. Notice also that we reduced non-accruing investments in the legacy Allied portfolio from $335.6 million to $63.7 million, a decrease of 81%.

Following the sale of the higher yielding, yet volatile CLO securities during Q1, the yield on the remaining legacy Allied portfolio was at 9.2% compared to a yield of 8.5% at the time of the Allied acquisition adjusted to remove those CLO securities.

As the top of the table indicates, we still have approximately $449 million of lower yielding or nonyielding securities with an aggregate yield of 2% that we'd like to exit or restructure over time. We continue to focus on exiting or restructuring the equity investments. And since closing of the Allied Acquisition, we've exited $81.4 million of equity investments, mostly offset by debt for equity conversions and appreciation. We hope to make additional progress with certain ongoing sale processes. However, keep in mind that such sales may not occur or they may take longer than expected.

Now if you turn to Slide 17. With respect to the core ARCC portfolio, the underlying portfolio company weighted average less dollar net leverage increased from 4.1x to 4.2x, reflecting higher market leverage levels on new transactions, particularly investments in larger companies and repayments of lower leveraged investments. However, weighted average interest coverage remain the same at a healthy 2.9x. For the combined portfolio, our weighted average total net leverage and interest coverage ratios were relatively unchanged, ending the first quarter at 4.2x and 2.8x, respectively.

At quarter end, the underlying borrowers within the Senior Secured Loan Program had slightly more conservative weighted average total net leverage and interest coverage ratios of 4.1x and 3x, respectively, as compared to the combined portfolio.

On Slide 18, you can see that we invested in companies with just over $43 million in weighted average EBITDA during the quarter. The weighted average EBITDA of the companies in our portfolio as a whole increased slightly to approximately $38 million.

Skipping over to Slide 20, you'll see that the portfolio remains well diversified by issuer. Our largest investment at quarter end was in the Senior Secured Loan Program, which increased from 13% of our portfolio to approximately 16% at the end of first quarter at fair value. Within the program, there were 22 separate borrowers as of the end of the first quarter. The program continued to have no non-accruing investments as of March 31, and the larger single issuer in the program represented about 10% in aggregate principal amount of total investments. The next largest investment was 4% of the overall portfolio at fair value and the 15 largest investments represented just under 48% of the overall portfolio at fair value.

Skipping to Slide 23, you'll see a summary of the grades for the 2 portfolios. The portfolio, as you know, is graded on a scale of 1 through 4, with an investment grade of 1 defined as having the greatest risk to our initial cost basis and a grade of 4 having the least amount of risk to our initial cost basis. Each investment is initially graded a 3 at the time of investment or acquisition. On a combined basis, the portfolio experienced 9 ratings upgrades compared to 7 ratings downgrades, reflecting stable credit performance. In the aggregate, as of March 31, the weighted average grade of the entire portfolio decreased from 3.1 at year end to 3 as of the end of the first quarter, primarily due to the aforementioned sale of the CLO securities that were rated a 4 given their pending sale.

The underlying combined ARCC portfolio companies experienced solid comparable revenue and cash flow growth on a year-over-year basis. Weighted average revenues and EBITDA for these portfolio companies increased approximately 6% and 9%, respectively on a comparable basis for the year-to-date period versus the same period last year. Revenue growth trends were modestly improved from the last measurement period, but EBITDA growth moderated slightly, most likely due to the tougher comparisons versus the prior year period and some modest inflationary pressure.

On Slide 26 and 25, you'll find our recent investment activities since quarter end and our backlog and pipeline. As of April 29, we had made additional new commitments of approximately $171 million, of which $142 million was funded since March 31. Of these new commitments, 95% were in first lien senior secured debt, 2% were in second lien senior secured debt and 3% were in equity securities. Of these new commitments, 95% were floating rate with a weighted average spread at amortized cost of 8.6% and 2% were fixed rate with a weighted average yield at amortized cost of 13.9%.

As of this date, we had also exited $34 million of investments, of which $9 million was from the core ARCC portfolio and $25 million was from the legacy Allied portfolio. Of these $34 million of exited investments, 80% were in floating rate with the weighted average spread at amortized cost of 9.3%, 2% were fixed rate with a weighted average yield at amortized cost of 12.1%, 16% were noninterest-bearing and 2% were non-accrual.

As shown on Slide 26, as of April 29, our total investment backlog and pipeline stood at $520 million and $360 million, respectively. Despite the more challenging market for new investment opportunities, the recent increase in market activity is reflected in our stronger collective backlog and pipeline, which has increased considerably since our last call. Of course, we can't assure you that we'll make any of these investments and we may syndicate a portion of these investments in the future.

So in conclusion, we believe that we achieved solid overall first quarter results. While our core earnings per share were sequentially lower than our fourth quarter 2010 results, primarily as a result of lower structuring fee income, certain costs associated with our strategic balance sheet actions and portfolio rotation activities, our strong GAAP earnings reflected another quarter of meaningful net gains in our portfolio and in this case, mostly realized gains. And our net asset value increased 3.6% quarter-over-quarter.

In addition, at this point in time, we currently expect to grow our portfolio during Q2 '11, although we obviously can't guarantee it. Our credit performance remains solid and stable in our view, and the underlying portfolio statistics were relatively unchanged despite the higher leverage multiples being completed on new transactions in the current market environment.

We made significant progress during the quarter, strengthening our balance sheet by raising attractive long-term fixed rate unsecured debt and substantially extending out our average debt maturities. And finally, as discussed, we continue to make further progress generating cash from the legacy Allied portfolio as the more liquid markets enabled us to exit assets at attractive prices. We do believe that there are further attractive rotation opportunities ahead.

And as for the market environment, we believe it's critical for us to leverage our scale and broad origination platform to focus on credit selection and balance sheet positioning. While initial excess spread may be available for those interested in investing in higher leveraged, smaller or more cyclical companies, we're focusing our attention on utilizing our scale and our structuring capabilities to win mandates with the highest quality companies. We believe Ares Capital Corporation is a proven full cycle investor and we intend to remain disciplined with respect to the future market opportunities that we believe lie ahead.

Thank you for your time today and always. And with that, operator, let's open up the line for Q&A.

Question-and-Answer Session

Operator

[Operator Instructions] Our first question comes from Greg Mason from Stifel, Nicolaus.

Greg Mason - Stifel, Nicolaus & Co., Inc.

First, could you talk, Mike, about the new investments that you're making with the floating rate and spreads of 8.6%? Do those have floors on them? And what kind of effective rate would that be?

Michael Arougheti

They do have floors although similar to spreads, in general, floors are coming in I think largely as a reflection of people's willingness to take lower all-in return, but also I think an acknowledgment that we're in a rising interest rate environment or at least, at some point, we should be. Floors in today's market are roughly 100 to 150 basis points and trending down.

Greg Mason - Stifel, Nicolaus & Co., Inc.

Okay. And then, you gave us some commentary on the non-accruals moving in and out. But I was curious, on the non-accruals that exited the portfolio, were those sold at realized losses or were those loans coming back on accrual status?

Michael Arougheti

Yes, the large change this quarter was an investment in Masterplan. We did take a realized loss on the sale of that investment, but we were able to sell that investment at a meaningful excess relative to where we had it marked last quarter. When I say sold, the company sold and we got taken out.

Greg Mason - Stifel, Nicolaus & Co., Inc.

Okay. And then, could you talk about the dollar amount that you invested in the first quarter? You said 2 of those were new companies and the rest were refinancing existing companies. Can you give us kind of a dollar amounts that went in those buckets, so that we can get a sense for fee income from those 2 new investments?

Michael Arougheti

Yes, we'll pull that information. But since you bring it up, it may be worthwhile to highlight the impact of the market environment on fees. I think the good news is on new issue activity, up-front fees are still holding strong, relative to prior quarters in roughly the 3% range. As I said in my prepared remarks, we're very focused on using our incumbency to either reinvest in our highest quality issuers or in the event that some of our larger borrowers are being threatened to get refinanced out of our portfolio, we're using our incumbency to protect the investment. But in so doing, often times, you can't go to the borrower that may have just taken financing from you and get paid a second time. So in those instances, while we're getting fees paid on new investments, they're typically lower than the 3% we would get on a new money loan. And we've seen those roughly in the 100 basis point range versus the 300 basis point range. In terms of the new borrowers, the 2 new borrowers, you'll see in our financial statements were to a company called American Academy of Professional Coders and to a company called Community Energy. The 2 of those combined represented $151.5 million of new investments.

Greg Mason - Stifel, Nicolaus & Co., Inc.

Great. And then one final question. It looks like repayment activity, at least so far in 2Q, has slowed significantly. Given the heightened M&A pipeline you're seeing, what do you think you're going to see on the repayment side?

Michael Arougheti

Our expectation is repayments will continue at a fairly steady clip. But given the increased new issue supply as we highlighted in our prepared remarks, we expect that our new investment should increase as well. And as we sit here today, we expect to see net portfolio growth in Q2. The difficulty predicting the repayments, where we have M&A processes that are ongoing, we have pretty good visibility and predictability to repayments. However, there are a lot of situations where some of our companies are opportunistically accessing the high-yield market or the syndicated loan market. And in those situations, similar to what we're doing with our own balance sheet, people are jumping through windows as they open and it's much less -- much more difficult to predict those.

Operator

Our next question comes from John Stilmar from SunTrust.

John Stilmar - SunTrust Robinson Humphrey, Inc.

Mike, the first question I had was, you obviously talked a lot about making strong risk-adjusted returns and that's led you to move further up the balance sheet. I was wondering if you could help -- we obviously know we can do the math with regards to swap-adjusted yields. But can you give us some context with regards to both the quality of the companies that you're seeing for making that choice and what that means from a credit perspective? Is it merely just moving up the cap structure or is it much more of the types of companies that you're trying to see? And can you help us think a little bit more quantitatively about loss profile or potential impairment to capital, which is the trade-off you're making.

Michael Arougheti

Yes, I think it's both, John. I'm glad you bring it up. As we talked about in the prepared remarks, markets are very efficient right now. There's an extraordinary amount of liquidity and in most, if not all, credit asset classes.

And again, while the middle market does offer premium pricing for theoretically less risk, when you look at the recent comparable transaction getting done in the middle market, that risk premium is shrinking pretty quickly. So what we've done, and it's really a function of our scale and the breadth of our origination platform, is making sure that we're going out and we're lending to what we think of the highest quality issuers in the market. That has two impacts. Number one, it allows us to deploy larger capital into larger borrowers, which means that we can achieve our growth objectives without pursuing volume necessarily. But to your point, we also think it positions us for much better returns over the cycle because these borrowers are larger, and I think, have demonstrated much better creditworthiness coming through the last cycle. That's partially reflected in the size, and you saw in the quarter, the weighted average EBITDA and the underlying portfolio increased. It's also a function of the market positioning of the Senior Secured Loan Program that's allowing us to bring a pretty unique solution to some of the larger borrowers. But the one thing I think that's important that people recognize, if you are generating excess return in this market, it's probably for a reason. Not to say that it may not be good risk-adjusted return, but if you're getting higher spreads in this market, it's because you're probably financing a riskier situation. And that's a good way to make return as well, it is just not the way that we think about managing our own portfolio.

John Stilmar - SunTrust Robinson Humphrey, Inc.

And then last conference call, you had certainly talked about one of your risk factors being higher commodity prices and potential wage inflation as well as commodity inflation. Where are you starting to see any segments of your portfolio? I think the increase in the non-accruals this quarter, does that have any sort of reflection of your prior remarks to what we saw this quarter? And can you just kind of update us with those sort of strategic thoughts as you've looked through your portfolio now and for three more months?

Michael Arougheti

Yes, so as part of our ongoing portfolio and the risk management, we think about portfolio-wide risk in a number of buckets, commodities being one of them. And if you think about the commodities that we have exposure to in our portfolio, food in certain circumstances, fuel and oil in certain circumstances, the metals, some apparel-type businesses with some cotton exposure and also some plastic resin exposure. I'll remind everybody that for the most part, we tend to focus on companies that don't make things where we are investing in manufacturing businesses, tends to be assemblers or light manufacturing businesses. We're much more focused on service-oriented businesses, high free cash flow, high operating margin, high return on invested capital businesses. So while we're constantly looking at this, I think it's important to appreciate that the commodity risk across the portfolio is mitigated just based on the types of industry that we lend to. I'd say, looking across the portfolio, food is probably the biggest commodity that we have exposure to and where we're seeing the most drastic pressures. We have investments in some food franchisors or franchisees that are combating increases in wheat and sugar and the like. I think the good news is, based on the way that we've structured these investments, a lot of those commodity increases tend to fall at the feet or the risk of those tend to fall to feet of equity owners and not necessarily the debt. So while we're seeing modest margin pressure, in many instances, the companies are still able to pass those through to the end consumer, and where they're not, they haven't been so drastic that they're impacting the creditworthiness of the borrowers. So the non-accrual trends are really not a reflection of inflationary pressure at this point in time. Although if they continue, in one or two particular instances, it could have a negative impact on the business. If you look across those big buckets of five industries, I'd say out of our 200-ish companies, we probably have 20 to 25 companies that have some modicum of exposure to one of those five major buckets, but again, I don't perceive it to be enterprise risk for any of those companies at this point.

Operator

Our next question comes from Rich Shane from JPMorgan.

Richard Shane - JP Morgan Chase & Co

There's a comment that you guys make periodically. You made it in your prepared comments and in the press release, talking about the impact of certain costs associated with our strategic balance sheet initiatives. And when I look at my model, the biggest variance on the quarter was interest expense, which is higher, and I understand that part of what's going on here is that you're terming out the debt and that's causing the cost of funds to go up, and you show that on Slide 10. Even though when I sort of go through the numbers, I have a very hard time getting to the run rate that you generated from an interest expense during the quarter. And so I'm wondering what this language means about certain costs. I assume that it's not simply reference to higher cost of funds but that there are some structuring charges or transaction costs that are embedded in that. Can you help us understand really where the run rate -- how we should be thinking about the run rate on interest expense going forward?

Penni Roll

Yes, Rick, this is Penni. I think a lot of what we talked about in our prepared remarks was the weighted average stated rate on the debt instruments moving from 5.2% to 5.7%. That's reflective of the coupon that we're paying on each debt instrument. We also have additional amortization of just upfront fees we're paying on each instrument. And in addition to that, with the convert notes, we have an OID that has to be amortized over the life of those notes. When you add all of that together, you're getting a cost coming through the interest expense as greater than just the stated rate. We try to help you in your modeling. In thinking about that, what we've done is we started last quarter and have continued in the first quarter 10-Q, augmented the disclosure to give you more details of splitting out the expense coming through from the stated rate versus the amortization of these various other costs that I think will be helpful to you and now trying to put that into your model. In addition to that, for the converts that we just did, because of the convert kind of allocation between the debt and the equity components and then that equity component gets amortized over the life, we did disclose to you the effective yield of those individual debt instruments in the Q as well. So hopefully, with all of that additional information, you'll be able to have more, I guess, closer modeling to what we actually have as expense compared to your model.

Michael Arougheti

The other thing I would highlight too, as Penni mentioned in her early remarks, we did carry a little bit of "redundant interest expense" given the timing mismatch between the convert rates and then the notice period to refinance our 2012 notes. So if you will, for about 30 days post the convert issuance and prior to the final refinancing of the '12 is we are carrying twice the interest expense, which resulted in slightly higher expense for the quarter.

Richard Shane - JP Morgan Chase & Co

And realistically sort of looking at the numbers at a 6% cost on that, that's probably $1 million a quarter incremental, so where we should -- if we start is run rate from last quarter minus $1 million.

Penni Roll

Yes, I think probably the easier way to start is if you look at the stated rates on the debt instruments. And you also have to consider we've repayed the 2012 at the end of April. We've disclosed the cost to do that, so I think if you model off of that and then you take the additional disclosure on the converts, you should be closer.

Operator

Our next question comes from Sanjay Sakhrani with KBW.

Sanjay Sakhrani - Keefe, Bruyette, & Woods, Inc.

So Mike, I completely understand and agree with the strategy of taking gains while it makes sense and kind of shifting to areas where the risk reward makes sense. But when we think about the core earnings trajectory from here on out, when do we start seeing some nice growth? You mentioned, we're you're going to see net portfolio growth in the second quarter. Is that going to be accretive kind of net growth or is the mix shift kind of taking the benefits away? And then just secondly, I was wondering if, Penni, you could go over that incentive fee commentary again? I just wanted to understand how much of that incentive fee was related to the realized gain versus the unrealized gain.

Michael Arougheti

So with regard to the first portion, we'll begin to see the growth when we see it. We are in the market. We think we're seeing almost every opportunity that exists in our available market, and we are competing hard to invest in the companies that we think are the best issuers. As we mentioned, we do expect to see net portfolio growth in Q2. And despite a willingness on our part to take slightly less current yield on floating rate investments versus fixed rate, you'll see on a blended basis, when you look at the investments made quarter-to-date, that the spreads on the floating rate at 8.6% with floors and the fixed rate of 13% plus are being made at accretive rates of return. So you should assume that when we're investing, we are investing accretively. The other thing I'd highlight, just also as a follow-on to Rick's question, what we've also done now is we've positioned ourselves that incremental investments will be made with our lowest cost of debt. And we've currently reduced our revolver, to the point, we have about $1.2 billion of revolver availability. And so when you think about accretion and the cost of capital to make a new investment, it's going to be measured against a LIBOR 275 or a LIBOR 300 revolver, which obviously drops a fair amount of earnings to the bottom line. But as we've always said, we don't set origination targets for ourselves. We go out and we try to find the best investments, and to the extent that we see them, we make them. In some quarters, the portfolio is growing, in some quarters, it's shrinking. Now we would love to see it grow every quarter and we'd love to see tremendous trajectory in the quarter. But again, as I said, we have to balance the opportunity to take gains and strengthen the balance sheet against the desire to continue to grow the core. And as we think about what the value proposition is to our shareholders, if you look at our spillover dividend from Q4, we spilled over about $0.30 from 2010 to 2011. Without adjusting for incentive fees, the gain on the CLO exits represents about $0.50 of gains. Now those are--that's cash available for distribution, but based on tax position, may not actually have to be distributed. So the point is, we're focused on a total value to the shareholders by looking at balance sheet strength, investing into leverage to drive core earnings and gains, and we're constantly adjusting that based on where we see opportunity. And then, I'll let Penni address the second question.

Penni Roll

Yes. With respect to the capital gain related incentive fee accrual that we made this quarter of $15.6 million, basically, the way the math behind that works is you would take the cumulative since inception net realized gains plus the net unrealized appreciation in the portfolio, subtract any incentive fees paid related to capital gains previously, if that's a positive number you would accrue an additional incentive fee in the quarter. Because of the additional net realized and unrealized gains that we had for the quarter, we had additional positive amounts added to that cumulative number. Therefore, we had the additional accrual. So cumulatively, we've accrued about $30 million on a GAAP basis. And again, the GAAP basis includes the unrealized appreciation. On a contractual basis of what we actually owed the advisor, we do not include the growth cumulative unrealized appreciation in the portfolio to determine the amount payable. Therefore, there is currently no amounts payable today, because if you take the appreciation out of the equation, we actually still have a negative number. So therefore, that $30 million accrual is simply a GAAP accrual to date and is not due in payables at this time. That accrual will change each quarter based on the addition to that cumulative net realized and unrealized gain equation.

Operator

Our next question comes from Joel Houck from Wells Fargo.

Joel Houck

Can you throw a little more color on the coupon or rate that you're seeing on the prepaid apart from the Allied portfolio in your core business?

Michael Arougheti

In terms of prepayment fees, et cetera on exits?

Joel Houck

No, I'm sorry, Mike. The prepaid--the coupon or rate on the debt that repaid in the quarter. Like if you have an average or kind of a general ballpark.

Michael Arougheti

Yes, we can pull that for you, if you just give us one second.

Joel Houck

In terms of this kind of a second quarter in a row, you've talked about pressure on pricing albeit modest and increasing leveraging. How tight does the market have to get before you guys kind of move off of now about $500 million in quarterly origination, their commitment though three quarters in a row?

Michael Arougheti

Well, that's a very comfortable pace for us. It feels like given our new balance sheet size that we settled at a good baseline number in that range, I think that if you recall, we typically close roughly 5% of the investment opportunities we see. And I'd also highlight, when we talk about investment opportunities, we're really talking about companies. So to the extent that a company is for sale and we see it from multiple potential buyers, we don't count that as a separate opportunity, so that would drive that number dramatically lower. When you're driving that kind of close rate and selectivity, I think you're making good risk-adjusted return decisions. Our hope is that given our position in market that we can increase that number in excess of the $500 million, but again, we are not -- we don't go out and tell our people to originate just for the sake of originating or meeting an origination target. I think what we've tried to highlight, and we've talked a lot about this in 2006 and 2007, is you have to think about returns across an entire cycle, factoring in loss given default and interest rate trajectory, as well as just general mark-to-market performance because that has an impact on liquidity as well. And so what we're trying to do is be in the market and find the best companies to invest in. And I think the good news is through Ivy Hill, through the Senior Secured Loan Program and through the balance sheet, we have a lot of different avenues to bring value to potential borrowers. And so if the market continues to tighten, we're still very relevant to most middle-market borrowers even in a senior heavy model.

Joel Houck

Then on maybe a different topic, the capital gains we see in this quarter and obviously, as you continue to optimize the legacy Allied portfolio, I mean, how much of the gains has to be paid out for distribution purposes versus potentially being retained for a spillover at the end of the tax year?

Michael Arougheti

I'll give you just a general view on that and then I'll let Penni address it with a little bit more granularity if need be. But one of the hidden benefits, if you will, of the Allied transaction is that we inherit Allied's cost basis as our tax basis. So if you use the CLO sale as the perfect example, while we booked a $100 million GAAP gain on that purchase, we actually booked a tax loss because the cost of those securities in the aggregate was roughly $260 million. And so again, we don't know as we sit here today because we still have nine months left in the year in terms of how gains and losses will roll through the portfolio. But there are advantages to inheriting that tax basis in terms of our ability to retain excess income and grow book value rather than be forced to make a distribution. And now Penni, if you have anything to add to that.

Penni Roll

No, I think that's it.

Joel Houck

So I guess the theme on the Allied asset, that's obviously, as you alluded to, the pricing [ph on book value.

Michael Arougheti

That's clearly [indiscernible] and again, and I think this goes back to some of Sanjay's questioning, if we determine that it's best given the market dynamics to continue to aggressively exit investments and generate gains and that's coming at the expense of aggressive core earnings growth, then even if it's not distributable from a tax standpoint, we, as portfolio managers, will clearly look at how to deliver that value to the shareholder. That's the trade-off that we're making and the balancing act that we're constantly focused on.

Joel Houck

And last question with respect to off-balance sheet leverage. The SEC's taking a I guess a harder stand on new issuers trying to come public in the BDC market. It's less clear what their stance is on kind of the legacy BDCs. Can you talk about your Senior Secured Loans fund and how maybe conversations or how you're thinking that they're looking at this in terms of off balance sheet leverage for you guys?

Michael Arougheti

If I understand the question, you're asking if the SEC has a view on the Senior Secured Loan Program as it relates to classification of the balance sheet leverage or not balance sheet leverage or off balance sheet leverage.

Joel Houck

Well, that and then also is there some type of limit that they've discussed or given you comfort with?

Michael Arougheti

No. Again, there's really -- it is not leveraged the way -- it's really a joint venture that we have with GE. The limitation on growth on the Senior Secured Loan primarily is not a function of any kind of SEC proclamation because candidly, there is no rule around on or off balance sheet leverage or consolidation of structured product. The limitation is really going to be one that we use internally just to make sure that we're maintaining appropriate diversification. And then also, just looking at the Senior Secured Loan Program against our potential 30% basket, and I think those two things, internal views on diversity and 30% bucket, will be the governors of growth, not necessarily anything that's coming out of the SEC.

Joel Houck

I don't know if you have the coupon rate answer.

Penni Roll

Yes, we do, and it's included in our 10-Q on Page 74, about the deal of that fair value on exited or repayment investment was 14.5%. And keep in mind that the CLO securities in that were yielding on a fair value basis at the end of the year, just under 20%, so that's driving that up to be a little bit higher than we would normally see.

Joel Houck

We can do the math to figure out what the non-CLO is.

Operator

And our next question comes from Faye Elliott from Bank of America Merrill Lynch.

Faye Elliott - BofA Merrill Lynch

Can you also give the average yield on the new investments?

Penni Roll

Yes. The average yield on the funded was about 12% for the quarter.

Faye Elliott - BofA Merrill Lynch

And then in terms of the incentive fee accrual that's been discussed, I guess it was $0.07 in the quarter. Am I correct in understanding that there is no obligation for the second quarter yet for that level of incentive fee?

Penni Roll

There's currently no payment obligation to the advisor. Keep in mind that payment obligation is actually calculated on an annual basis. But currently, based on where we were at 12/31 of '10, there was no payment obligation and we continue to not have any contractual obligations.

Faye Elliott - BofA Merrill Lynch

So obtensively, we could see next quarter's numbers basically all else being equal bounce up by that amount?

Michael Arougheti

Well, remember, just -- let me try to state what the issue is here simply so that people appreciate it because it keeps coming up. There's a difference between the statutory obligation to pay under the management agreement and that's a statutory formula versus what GAAP requires. When you look at the incentive fee on a statutory basis, we are not allowed to include unrealized appreciation. So if you think about it in terms of a traditional high watermark concept, you're looking at cumulative realized and unrealized losses since inception, measured only against realized gains. And so for the purposes of paying, we are still negative because we don't get credit for all of the realized gains that we've generated. From a GAAP standpoint, you are required to include the realized gains. And because of the very positive realized gain performance, we get into a positive situation. And when you get into that positive situation, you look at that and assume an accrual on payment. And we had roughly $15 million accrued last quarter based on positive realized and unrealized gain performance. And we had another additional $15 million accrual this quarter based on realized and unrealized gains as well largely driven by the CLO sale and continued appreciation in the portfolio. When we get to next quarter, you do the same calculation. So really, depending on realized gains and net appreciation or depreciation, you could either see continued accrual or a reversal of prior accruals.

Faye Elliott - BofA Merrill Lynch

But even though it's a GAAP number, it's included in your NOI?

Michael Arougheti

Correct. But it's non-cash, it's just an accrual. Said differently, if you theoretically liquidated the portfolio today at fair value, you would have crystallized the net unrealized appreciation, and that's why the accrual is effectively coming into effect because there's a view that if all else were equal and you continued along the path that at some point in time, payment would be required.

Operator

And our next question comes from Arren Cyganovich from Evercore.

Arren Cyganovich - Evercore Partners Inc.

Just thinking about interest rate risk management. You've moved your portfolio pretty heavily towards the floating rate. It's about half of the portfolio now, I believe. Is that really the targeted area that you're looking for? Are you going to expect to increase that? And do you anticipate using any kind of hedging strategies going forward as well?

Michael Arougheti

Well, we constantly review our interest rate exposure, and we have pretty good core competencies internally and we also use third-party interest rate consultants to review our interest rate strategy on a regular basis. As we're currently positioned, and this is why we talk a lot about the asset liability mismatch that we've created or the asset sensitivity we've created, we've really done that at very little cost. We were talking a lot about it. But if you think about the cost to implement that switch in the portfolio, both assets and liabilities, it didn't really result in that much incremental cost. The reality is most of our floating rate assets are priced off with three months LIBOR. And three months LIBOR right now is about 27 to 30 basis points, depending on the day. We know what our downside is, right? If everybody thought interest rates were going down, we know that we have 30 basis points of downside on the underlying rates. Everybody has different views on where LIBOR is going to go. I think generally, historically, the LIBOR curve has been a terrible predictor of actual LIBOR in the future period. So we're of the view that we will see increases in underlying interest rates. So that will be very beneficial to the portfolio. If it doesn't happen, we're still generating a very attractive spread because as I mentioned, we didn't really incur a significant amount of cost to create the sensitivity. So yes, we look at hedging, but if you think about the profile of the portfolio against underlying base rates, it's really not -- it's not something that we're probably going to hedge at this point.

Arren Cyganovich - Evercore Partners Inc.

And you don't have any specific targeted rate of floating assets in the portfolio?

Michael Arougheti

There's a natural limit just because we are in multi-asset classes and where we see the opportunity to invest in attractive borrowers at fixed rate to the extent that we can get call protection and match fund those assets then we're making those investments. So there's going to be a natural limit to how much floating rate exposure we're going to see in the portfolio. But if you look at just the Q1 activity quarter-to-date, as we mentioned, we're also disproportionately investing in floating rate this quarter as well. So I'd expect to see it increasing over the next couple of quarters but there will be a limit as to how high it gets.

Arren Cyganovich - Evercore Partners Inc.

And then lastly, you may have addressed this. But there was a modest increase in the equity and non-interest earning assets to about 20.6% from 18.3%. What was driving that?

Michael Arougheti

I don't have the detail underneath it. But my gut is that it's really just a function of continued appreciation in fair value of the underlying portfolio as opposed to any actual mixed shift.

Operator

And our next question comes from Jasper Burch from Macquarie.

Jasper Burch

I guess, just staying on the interest rate sensitivity topic. I think we like that you guys are going along interest rates a little bit here. I'm just wondering, could you remind us what the weighted average floor is on your portfolio just so we can try and model out when rising rates will start to help you guys?

Michael Arougheti

Yes, unfortunately, we don't disclose that. There is some disclosures on Page 92 of the Q that shows some of the interest rate sensitivity under certain increasing interest rate assumptions. And I'd point you to that to get a general sense, but it's not a number that we've disclosed in the past.

Jasper Burch

And then on your new originations, it looks like you're on pace again to do another $500 million this quarter when you, of course, guided that you expect the portfolio to grow. And so that sort of implies that you're looking at fewer sales or repayments? I'm just wondering if you could give us a little bit more color on that. I mean, are you looking to sell fewer assets on the sort of Allied side or is it really that you expect fewer repayments and few of your companies really refinancing out of their debt?

Michael Arougheti

I think both. I think that we are, again, despite the challenging environment, I think we're enjoying the benefits of scale, and the diversity of our product offering is allowing us to win a fair amount of business in the companies that we want to invest in. So I think it's a combination of increased investment, I mean, you saw the backlog and pipeline as it sits. The backlog is $520 million and there's a $360 million pipeline sitting behind that. We are still very focused on selling assets out of the Allied portfolio. As we talked about in the prepared remarks, there's not that much left but there's still some work to do. We talked last quarter and again this quarter about the equity portfolio and there continue to be a number of initiatives underway to try to generate liquidity within that bucket in particular. And again, with regard to the refinancings, I think part of the reason that we expect to see a little bit of a slow down at some point even if the high-yield market and the syndicated loan market remain as healthy as they are now, the number of borrowers in our portfolio that are good candidates get taken out by those markets by definition is going down. So to the extent that they could have access to high-yield market, they probably have by now or at least bulk of them have. And that's going to drive a little bit of a slowdown as well.

Jasper Burch

And then I guess just lastly, in the last quarter, can you give us some color on what actual impact and yield or how much yield you gave up on the refinancings that you guys did?

Michael Arougheti

Not a lot. I don't actually have the detail on front of me. I think the good news is a lot of the refinancing activity where we're playing defense, if you will, is happening within the Senior Secured Loan Program. And based on the structure of that venture, we're still able to maintain pretty attractive ROEs, even if we have to give up asset level yield. And the other thing I'd highlight too is sometimes we may have a mezzanine investment in a company. We're getting to the end of the call period and they want to take advantage of a senior first lien structure or a senior second lien structure. And so while we're giving up yield, we're also meaningfully changing the nature of the underlying investment. But at least for the last quarter, I would say that the trade off has not been that significant.

Operator

Our next question comes from David Miyazaki from Confluence Investment Management.

David Miyazaki

First, I just wanted to apply to your ongoing efforts to build out the right side of your balance sheet. I guess not so much for protecting against rising interest rates but more just to get away from the whole mark-to-market and credit facility maturity issues that plague the industry, so I think that's really great effort. My question, I guess, is kind of related to what Joel was talking about on your Senior Secured Loan Program. Recently, within the industry, there've been a couple of BDC's that came out with dedicated senior floating funds. And I was wondering if you could just kind of compare and contrast how your model is different and whether you feel like that's sort of an ongoing structure that you would maintain versus separating it out and having it managed in a completely different entity.

Michael Arougheti

We have no interest in raising a separate entity dedicated to senior secured lending. We think that one of our biggest value propositions to our potential borrowers as well as to our shareholders is building scale within a single entity, do benefit from the diversity and underlying portfolio, access to capital markets more efficiently. It makes us much more relevant to our borrowers because we can offer them a full balance sheet solution. And candidly, it allows us to do exactly what we're doing now, which is manage the asset composition much more dynamically as the credit cycle develops. One of the things that is explicit, although it can be remedied through exemptive release, although, not so easy to get it is related or affiliated entities cannot co-invest together as per Section 57 of the '40 Act.

And so for us to set up a separate entity that does not reside within our existing corporate silo, if you will, actually reduces our competitiveness in the market because it would prohibit us from offering full balance sheet solutions. And then again, the challenge we have and this is one of the reasons why Ivy Hill exists as a separate portfolio company, the senior secured loan market, we're very, very big believers in the senior secured loan and asset class both at the BDC and across the Ares management platform, but they're very sensitive to interest rates and to spread tightening. And with one-to-one leverage particularly given the cost of leverage in the BDC arm struck [ph] versus other markets, you could find yourself in a situation where spreads are tightening to the point where the shareholder value proposition breaks down. And at the end of the day, our responsibility is to generate good adjusted returns for our shareholders and if we earn an environment where senior secured loans, not Unitranche, but senior secured loans are now pricing at 400 over LIBOR, at 4x leverage, you could see the value proposition breaking down pretty significantly. So for us, it's not a strategy that we'll be pursuing. When we think about our own senior secured loan capabilities, we think about it in the context of Ivy Hill, the Senior Secured Loan Program and our own on balance sheet capacity.

Operator

Our next question comes from John Hecht from JMP Securities.

John Hecht - JMP Securities LLC

I guess, Mike, one thing I'd be interested is in your commentary on who is driving the pricing pressure? I mean, are these bigger banks coming down out of the high-yield markets into the larger middle markets or is it some of the smaller players coming up stream into the larger middle markets at this point? And is this a permanent shift in your mind or is this temporary and what will happen in a rising-rate environment?

Michael Arougheti

I think generally speaking, it is the banks coming down into the middle market. So there used to be a rule of thumb that a $50 million to $75 million borrower could not access the high yield market, I'm talking about EBITDA or a $50 million to $75 million EBITDA borrower was not really attractive to the larger investment banks as a potential candidate for a distributed solution. In the absence of new issues supply, and we talked a lot about the first quarter market landscape where we saw very low new issue volume because of low M&A activity and very high refinancing, it creates a dearth of product for the banks. And we've seen the Morgan Stanleys of the world, the CSFBs, the JPMorgans, et cetera, willing to pitch and bring smaller companies to market in a way that we have never seen before. So I think, as rates rise, you should see that pressure go away a little bit, but really what will relieve the pressure is just more new issues supply particularly for larger companies that will, number one, get the banks back up market, but also suck up some of the capital that's been sitting on the sidelines as a result of all the refinancing and recap activity and all the inflows.

John Hecht - JMP Securities LLC

You had a pretty strong combination pipeline and backlog. You did talk about some of the details, but I wonder, can you characterize it? Is it acquisition financing? Is it more refinancing? Maybe a little bit of color there.

Michael Arougheti

Yes, there's some detail on Page 26 in terms of the asset composition and the industries. Again, there is a combination of new acquisition financing and refinancing. But as we mentioned in the prepared remarks, I would say it's skewing now more towards new acquisition financing as opposed to refi and recap activity, which is a positive sign for us.

John Hecht - JMP Securities LLC

Is it still -- I know you mentioned you may have the adjustable rate pickup in Q2 relative to the overall composition recently. But are there still more of a focus on fixed rate versus adjustable rate?

Michael Arougheti

No. So if you look at Page 26, you'll see 80% of the backlog and pipeline is in first lien senior. 16% of the pipeline is investments into the Senior Secured Loan Program and a fairly paltry 4% is sub debt and equity. So you should expect, again, all else equal that the net fundings in Q2 will skew towards floating rate assets as well.

Operator

Our final question comes from Vernon Plack from BB&T Capital Markets.

Vernon Plack - BB&T Capital Markets

Mike, sticking on Page 26 of the presentation. I had a question from an industry perspective. Looking at the pipeline versus the current portfolio, I noticed there's no healthcare. I also noticed that the pipeline is 39% manufacturing versus the overall portfolio of fair value is 4%. So I don't know if that's deliberate or if it's just a result of a coincidence in terms of working the pipeline right now, so just some color there in terms of any industry focus that may be going on.

Michael Arougheti

I'd chalk it up to a coincidence. And as I mentioned, manufacturing is a pretty broad categorization. Where we are investing in manufacturing businesses, they tend to be light manufacturing or assembly-type operations in higher value-add type products and niche markets. I wouldn't read into that, our bias continues to be the high free cash flow margin businesses. The weighted average EBITDA in our portfolio is in excess of 20%, and it's tough to drive those types markets if you're focusing on more cyclical-type manufacturing businesses. One thing you couldn't forehear though is that, and we said this in past quarters, we do have a willingness to take more "company risk" if we are up the balance sheet, right? There's always a trade-off between security risk and company-level risk and industry-level risk. And so if we do perceive that there's a company that we like but our risk appetite ends at first lien senior, it does give us the ability to play in certain industries that we probably wouldn't play as a junior creditor.

Operator

And with that, that concludes today's question-and-answer session. I would like to turn the conference call back over to management for any closing remarks.

Michael Arougheti

Great. Well, again, we appreciate everybody spending so much time with us today. I know it went long, but hopefully, people found it helpful. I'd like to thank the team for all their hard work continuing to manage the business aggressively in this challenging market, and look forward to speaking to everybody next quarter. Thanks.

Operator

Ladies and gentlemen, that does conclude our conference call for today. If you missed any part of today's call, an archived replay of this conference call will be available approximately after one hour after the end of the call through May 18, 2011, to domestic callers by dialing (877) 344-7529, and to international callers by dialing (412) 317-0088. For all replays, please reference account number 449727. An archived replay will also be available on the webcast link located on the homepage of the Investor Resources section of our website. Again, thank you for attending. You may now disconnect your telephone lines.

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