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Executives

Bill Walton - Chairman and CEO

Joan Sweeney - COO

Penni Roll - CFO

Shelley Huchel - Director of IR

John Fruehwirth - Deputy Head of Private Finance

Rob Long - Head of Asset Management

Mike Grisius and Dan Russell - Vice Chairman of our Investment Committee

Analyst

Vernon Plack - BBT Capital Market

Greg Mason - Stifel Nicolaus

Henry Coffey - Ferris, Baker Watts, Inc

Eli Lilly - Merrill Lynch

Dan Furtado - Jefferies

Ryan Hogan - Piper Jaffrey

Robert Dodd - Morgan Keegan

John Stilmar – FBR

Allied Capital Corporation (ALD) Q1 2008 Earnings Call May 7, 2008 8:30 AM ET

Operator

Welcome to Allied Capital's first quarter 2008 conference call. I am joined today by Joan Sweeney, our Chief Operating Officer; Penni Roll, our Chief Financial Officer; Shelley Huchel, our Director of Investor Relations. We also have with us today John Fruehwirth, our Deputy Head of Private Finance; Rob Long, our Head of Asset Management; Mike Grisius and Dan Russell, Vice Chairman of our Investment Committee.

Shelley, will you open discussion today with the required conference call information and discuss forward-looking statements?

Shelley Huchel

Absolutely. Today's call is being recorded and webcast live through our website at www.alliedcapital.com. An archive of today's webcast will also be available on our website, as will an audio replay of the conference call. Replay information is included in our press release today and is posted on our website. Please note that this call is the property of Allied Capital. Any unauthorized rebroadcast of this call in any form is strictly prohibited.

I would also like to call your attention to the customary Safe Harbor disclosure in our press release today regarding forward-looking information. Today's conference call includes forward-looking statements and projections, and we ask that you refer to our most recent filings at the SEC for important factors that could cause actual results to differ materially from these projections. We do not undertake to update our forward-looking statements, unless required by law. To obtain copies of our latest SEC filings, please visit our website or call Investor Relations toll free at 888-253-0512.

For today's conference call, we have provided a companion slide deck that complements our discussion, and lays out many of the numbers we will discuss. These slides are available in the presentations and reports section of the investor resources portion of our website. We'll make reference to the data included in the slides throughout today's call.

Finally, as always, there will be a Q&A session after the presentation.

With that, I'll turn it over to Bill.

Bill Walton

Thank you, Shelley. We are here today to report on our first quarter 2008 results and to give you an update on our business and the current market environment.

Let's begin by discussing the recent announcement we made regarding changes in our management team. Joan has announced that she intends to retire from the company at the end of 2008. However, we are fortunate that following her retirement, she will continue to serve on the company's Board of Directors and intends to serve as a consultant to the company.

In anticipation of Joan's retirement, we have named several managing directors to new executive positions. Rob Long will assume the position of Head of Asset Management. Rob has been an integral part of our management team since 2002 and had led our business development activities and has been active in developing our Asset Management business.

I will continue to head all private finance investment activities, and share the investment committee. I have asked John Fruehwirth to assist me as Deputy Head of Private Finance. John has been with us since 2003, and has played a significant role in building our private finance business and the investment portfolio.

In addition, to provide additional oversight in the investment process, I have asked Mike Grisius and Dan Russell to serve as Vice Chairman of our Investment Committee. Mike and Dan have proved themselves to be extraordinary investors and have been with the company since 1992 and 1998 respectively. We have also given John Scheurer, a new title, as Head of Commercial Real Estate Finance. As you all know, John has been responsible for the company's commercial real estate investing activities since 1991. John is not here with us today. He is traveling.

Our management team is deep and highly talented. We planned to take the next several months leading up to John's retirement to transition our responsibilities and we believe that these new appointments will be well positioned to move the company forward.

And now on to our first quarter results. For the first quarter, we recognized net investment income and net realized gain of $73 million or $0.45 per share. We also recognized net unrealized appreciation in the portfolio of $113 million or $0.17 per share, which led to a net loss for the quarter of $0.25 per share.

Overall, the company's portfolio's credit performance continued to be quite good, as we will be seeing in our statistics for workout assets, non-accruals and over 90-day delinquencies. Interest income improved this quarter, and we received over $17 million in dividend payments from the sale and recapitalization transactions.

In the first quarter, the capital markets continue to devalue financial assets and constrain leverage. Consequently, our financial services investments were the leading contributor to the unrealized portfolio depreciation this quarter. Penni will discuss portfolio quality evaluation later in the call, including a discussion of SFAS 157. During the first quarter, we originated new investments of $275 million.

Capital invested in the first quarter included several deals that were priced and originated in late 2007, and as a result are not necessarily indicative of this year's pricing

Our marginal cost of capital is higher today. New investment opportunities are also priced with attractive returns. That is potential total returns in the mid-teens and above.

We are also working on an internal initiative to sell or encourage the recapitalization of some of our lower yielding debt investments. The objective here is to replace some of our lower yielding assets over time. Mike will provide more color on this later in the call.

As you know, to grow the portfolio with new investments, we access new debt and equity capital. During the first quarter, we raised equity capital and renewed our three-year revolving line of credit in April. We've been fortunate to have access to both the debt and equity markets in an environment when many have not. Joan will provide additional information on capitalization and liquidity.

Finally, we made further progress this quarter in building our managed fund base by assuming the management to have an additional CLO portfolio and hiring some exceptional senior loan talent. CLOs and securitizations have been at the epicenter of the credit market dislocation, and we have taken the opportunity to better sift from this dislocation by assuming assets that have been previously managed by others and securing top talent. Rob will talk about this later in the call.

Joan, could you walk us through discussion of first quarter results?

Joan Sweeney

Thanks, Bill. Let's start with a discussion of our March 31, 2008, balance sheet. Please turn to our summary balance sheet, which is on slide 3 of the slide deck.

We ended the quarter with total assets of $5.1 billion, total debt of $2.2 billion and total shareholders' equity of $2.8 billion. Our shareholders' equity included undistributed earnings of $500 million.

We invested $275 million in the quarter and will repay $265 million for net new investment of $10 million for the quarter. Included in the repayment numbers was $167 million in asset sale to AGILE 1 in connection with the Goldman Sachs transaction we discussed earlier this year.

After including quarterly net valuation changes, our portfolio at value was $4.6 billion as of March 31, 2008, down from $4.8 billion at December 31, 2007. The yield on our interest-bearing portfolio at March 31, 2008, was 12.3% as compared to 12.1% at December 31, 2007.

During the first quarter, we issued new equities to two offering for net proceeds of $171 million. We raised an additional $36 million in April. Also, in April, we renewed our revolving line of credit. We were in the markets renewal line of credit in March. And as many of you know, March 2008 will be difficult period to ask lenders to commit to a multiyear line of credit for a company in the financial state.

We however were quite successful in our endeavors and our new line of credit, which replaces the previous line, is a three-year unsecured revolver with total commitments of $632.5 million. We have the option to expand total commitment to $1.5 billion, and we intend to do so as the credit markets improve.

That could be expected in this capital market, the pricing on the renewed line increased to LIBOR plus 200 with an annual commitment fee of 50 basis points.

For now, we are fortunate to have completed the renewal, and we believe that our success is due to the strength of Allied Capital's balance sheet in an uncertain credit market. We closed the quarter with about $270 million borrowed under the revolving line of credit.

At the end of the quarter, we also had investments in treasures, money market and other securities, totaling approximately $120 million and cash of approximately $81 million. As the capital markets became increasingly uncertain in March, we moved our liquidity portfolio entirely into cash and very short-term treasuries as a conservative measure.

We also decreased our outstandings on the line of credit in the first quarter by about $100 million. At March 31, 2008, our debt-to-equity ratio, net of cash and short-term liquidity investments was within our target range of between 0.521 and 0.721. You may recall that at December 31, 2007, this pricing [there] leveraged. And given the current capital market, we believe that it was prudent to repay some debt this quarter.

On March 31, 2008, shareholders' equity or net asset value was $16.99 per share as compared to $17.54 per share at December 31, 2007. Please turn to slide 4 for a summary of the changes in NAV for the quarter.

During the first quarter, net investment income and net realized gains increased NAV by $0.45 per share, while dividends paid to shareholders decreased NAV by $0.65 per share. Also, in the quarter, NAV decreased by $0.70 per share due to changes in unrealized appreciation or depreciation.

Two accretive equity capital raises and the distribution of deferred compensation assets in the first quarter increased NAV by $0.35. As undistributed earnings resulting from spillover income billed and then it's paid out, NAV will fluctuate accordingly. Also, as the portfolio changes in value over time and gains and losses are realized, NAV will fluctuate.

Now, let’s move to a discussion of our earnings. For this discussion, please turn to slide 5.

Interest income for the quarter ended March 31, 2008, was $117 .7 million as compared to $107 million in the fourth quarter of 2007. The increase was primarily due to the investing we did in the late fourth quarter of 2007. Dividend income for the first quarter of 2008 was $16.9 million. This is an unusual level of dividend income for us and was due primarily to two items. First, we completed the recapitalization of one of our portfolio investments in Norwesco and the company paid up as a $7.1 million dividend.

Second, the sale of assets to AGILE 1 resulted in $5.4 million in dividend income instead of capital gain income because of its structures of some of the investments sold. Fees and other income were $10.3 million for the first quarter as compared to $10.6 million in the fourth quarter. This quarter's fees another income included fees associated with new investment origination activity applied for $1 million, fees from portfolio company's of $2.9 million, commitment and guaranteed fees of $1.7 million, and fees from managed funds of $0.6 million. Fees and other income will fluctuate from quarter-to-quarter depending upon the level of investment activity, changes in portfolio composition, and related management fee income.

Total operating expenses were $73.4 million in the first quarter of 2008 as compared to $62.1 million in the fourth quarter of 2007. The comparability of fourth quarter 2007 expenses, and first quarter 2008 expenses, was affected by items. So, please turn to slide six for a more detailed analysis.

Interest expense excluding installment sale interest expense was $35.7 million for the first quarter as compared to $32.2 million in the fourth quarter of 2007. Total employee expense, excluding the IPA and related IPA mark-to-market with $24.3 million in Q1 '08 as compared to $20.3 million in the fourth quarter of 2007.

Fourth quarter 2007 employee expense was lower, because we decreased the amount of the 2007 bonus pool in the fourth quarter, which reduced fourth quarter compensation expense by about $6 million. IPA expense for the quarter was $2.4 million. However, this expense was reduced by an IPA mark-to-market adjustment due to the decline in our stock price in the first quarter.

The first quarter $4.1 million IPA mark-to-market benefit compares to a fourth quarter mark-to-market benefit of $10.4 million. In March, we terminated our deferred compensation plan and distributed the assets to planned participants. So, we will no longer have IPA mark-to-market changes or benefits. Going forward the IPA will be paid in cash on a semi annual basis and the quarterly expense for 2008 should approximate $2.4 million per quarter. Employee stock option expense was $4.2 million for the first quarter of 2008 as compared to $3.7 million expense in the fourth quarter of 2007. Our core administrative expenses for the first quarter were $9.5 million as compared to $11.6 million in the fourth quarter of 2007. We typically experienced lower administrative expenses in the first quarter of the year.

Core administrative expenses for the first quarter of 2007 were $9.9 million. Excise taxes were $2.3 million in the first quarter and we had an income tax benefit for the quarter of $0.3 million. Now turning back to slide 5, you can see that we experienced net realized gains for the quarter of $3.1 million or $0.02 per share. Gross gains totaled $32.7 million for the quarter or growth losses for $29.6 million. Net investment income and net realized gains totaled $72.7 million for the first quarter of 2008 or $0.45 per share. Net investment income and net realized gains are the primary components of the taxable income that supports the dividend. Dividends paid in Q1 ’08 were $108 million or $0.65 per share. Net unrealized depreciation for the first quarter totaled $113.4 million or $0.70 per share. Penni, will provide more information on the component of this number in a moment. Net investment income and net realized gains reduced by net unrealized deprecation resulted in a net loss for the quarter of $40.7 million or $0.25 per share. And, with that I will turn the discussion back to Bill.

Bill Walton

Thanks you Joan. Penni, please walk us through the results of our valuation process, portfolio quality statistics, and provide an update on the status of our spill over income.

Penni Roll

Thanks Bill. Before we talk about the details of portfolio valuation changes, I want to start with the discussion of our implementation of FAS 157 this quarter. To adopt this new statement, we have spend a considerable amount of time studying statement and addressing how the statement should be applied considering the fact that as a BDC, we have always report our portfolio asset using fair value methodologies.

To understand and apply the new standard, we have had multiple discussions with representatives from three national accounting firms. They’ve surveyed other BDCs with respect to their interpretations of the new statements. We have continued dialogue with our two independent valuation firms and we have had conversation with forty odd counsel. We have also attended numerous seminars on the subject of FAS 157 plus you can see we spend a lot of time on this matter.

The bottom line is that FAS 157 does not change our requirement to report our investments of fair value. However, the new statement add specificity to the definition of end process for determining fair value in several subtle ways by focusing on the assumption used by market participants. The definition of fair value on this statement is the price that would be received to sell an asset and an orally transaction between market participants after measurement days, which is very similar to the definition we have used historically when we evaluate fair value in a current sale. Where the statement makes subtle changes to our historical valuation approach, however, is through the statements concepts and definitions of market participants in principal market. The statement requires that the asset is assumed to be sold in its principal market to market participants.

The principal market is defined as the market in which the reporting entity would sell the asset, with the greatest volume and level of activity for the asset. Market participants are defined as buyers and sellers in the principal market that are independent, knowledgeable, and willing and able to transact.

Given these concepts and the statements, we evaluated what, in fact, were the principal markets and market participants in evaluating the fair value of our investments. We concluded that for our buyout portfolio investments, where we have actual control or to gain control through an option of warrant security. Both the debt and equity securities of the portfolio investment would access through the merger and acquisition market as the principal market.

As a result, we believe that our enterprise value methodology as a means to determine fair value remains appropriate under the new statement. For non-buyout debt portfolio investments, we do not typically control the exit of our investment. Typically, the equity sponsor of the portfolio company determines when to sell or recapitalize the investment. As a result, under the new statement, we cannot consider the M&A market to be the principal market for these investments, and we instead need to determine the fair value of an investment assuming an exit in a hypothetical market for sale of the individual security.

To do this hypothetical analysis, we developed a yield analysis for a hypothetical current sale of the security, estimating the expected repayment date of the instrument any market participants required yield. The yield analysis considers the interest rate on the debt security and the current leverage levels of the portfolio company as compared to market interest rates and market leverage levels.

We also performed an enterprise value analysis in order to asses the credit risk of the investment. Assuming the credit quality remained stable, we use the value determined by the yield analysis as the fair value for that loan and debt security.

Now please turn to page eight of slide deck to review the effects of our valuation process this quarter.

For the quarter ended March 31, 2008, the total net change in unrealized appreciation or depreciation was a decrease of $113.4 million. This change resulted from $95.9 million in net unrealized depreciation from changes in portfolio value. A $46 million reversal previously recorded unrealized appreciation associated with the realization of gains and the dividend income received from AGILE sale and Norwesco recapitalization. And a $28.5 million reversal of previously recorded unrealized depreciation associated with the realization of losses.

The primary drivers of the net unrealized depreciation of $95.9 million from changes in portfolio value were as follows. Non-buyout debt investments, which depreciated by $9.3 million as result of using a yield analysis in connection with the adoption of FAS 157.

Additional depreciation of $39.9 million on our investment in Ciena Capital resulting from reduced value assessment for their residual interest assets and other financial assets, and depreciation in our other financial services and asset management portfolio companies and our CLO and CDO investments which totaled $39.4 million for the quarter.

This quarter was a tough one in the financial services industry, and our financial services portfolio investments have declined in value as a result. We continue to receive third party valuation assistance for our private finance portfolio. And as you can see from slide nine, we've received third party assistance for 94% of the portfolio for the first quarter of 2008. Of the remaining 6% of the portfolio, 2.8% represented deals closed during the first quarter. You will be able to review the changes in portfolio evaluation in more detail, as well as see our complete discussions surrounding the adoption of FAS 157 in our Form 10-Q that we will file shortly.

Now let me turn to a discussion of our portfolio quality metrics, grade 4 and 5 assets or workout assets, loans and debts securities not accruing interest, and loans and debts securities over 90 days delinquent.

Please turn to slide 11. Here you will see a summary of our Grade 4 and 5 assets or workout assets for the last ten years and for the past nine quarters. Grade 4 and 5 assets were $113 million or 2.4% of the total portfolio of value at March 31st which is within our historical range.

On slide 12, we have a similar analysis for loans and debt securities not accruing interest. Loans and debt securities not accruing interest at March 31, 2008 were $150.7 million or 3.3% of the portfolio value again within our historical experience.

On slide 13, we have a separate analysis for loans and debt securities over 90 days delinquent. Loans and debt securities over 90 days delinquent at March 31st were $69.4 million or 1.5 of the total portfolio value, also within our historical range. Overall, our portfolio continues to perform well. There were no significant new additions to non-accruals or over 90-day delinquencies during the quarter. We are actively monitoring the portfolio to assess how the various companies are reacting to our weakened economy.

As you can see in our valuation results, the financial services portfolio has suffered the effect of declining values for our financial assets, and we believe that financial services companies may continue to have difficulties, including accessing capital throughout the remainder of the year.

We do believe overall that our industry and investment selection, as well as the more senior and control investment structures we've put in place over the past several years, should service well should the economic environment continue to deteriorate.

We are conservatively capitalized. And as a result, we believe we are positioned to work through tough economic times with our portfolio investments.

Now, I'd like to move to a discussion about our taxable earnings and spillover income. At December 31, 2007, the company had estimated excess taxable income of $400 million available for distribution to shareholders in 2008.

Given the company's regular quarterly dividend payout, which for the first quarter of 2008 was about $108 million, we expect the majority of our 2008 dividend payments will be made from excess 2007 taxable earnings. As a result, we expect that most of the taxable income generated in 2008 will be available for distribution in 2009.

In addition to spillover taxable income, the company has an estimated $235 million in deferred taxable income resulting from installment sale gains. These gains maybe referred for tax purposes until the installment notes are sold or are collected in cash.

I want to add a caveat to this discussion with the comment that our 2007 taxable earnings and installment sale gains are estimates, and will not be finalized until we file our 2007 tax return in September of this year.

I also want to point out that we experienced numerous temporary and permanent differences in the recognition of book and taxable income. And as a result, our estimate of tax undistributed earnings exceeds our book undistributed earnings by over $100 million. I encourage you to read our tax disclosure on our 2007 Form 10-K and our first quarter Form 10-Q for a more detailed discussion of our taxable earnings.

And with that, I'll turn it back to you, Bill.

Bill Walton

Thanks, Penni. Mike and Rob, could you give us an update on current business in the markets?

Mike Grisius

Okay. Thanks, Bill. First, let me summarize this quarter's investment activity, and then I'll pass it on to Rob to expand on the market discussion and our view going forward.

Please turn to slide 15. We invested $275 million this quarter. During the quarter, we originated senior loans of $37 million with an average yield of 7.2%. Now, we intend to sell or refinance much of the senior loan capital that was invested this quarter in the next several months.

We also originated Unitranche debt of $5 million with an average yield of 9.9%, subordinated debt of $161 million with an average yield of 12.4% and invested $3 million in CLO equity with an average yield of 27.6%. In addition, we invested 31 million into the Unitranche Fund. We anticipate this fund to generate mid-teens returns over time. We also made new equity investments of $38 million.

Now, as I mentioned, we intend to sell or refinance much of the lower yielding senior loans originated in the first quarter within the next several months. In addition, we are actively pursuing the sale or refinance of several other low yield and debt investments in the portfolio.

Our strategy over the past few years of introducing more senior and Unitranche credits into the portfolio has been beneficial in terms of credit performance. These mostly fixed-grade assets will price the yield to sort of become attractive for senior credit instruments in the current low LIBOR environment, and we believe we have a number of debt investments that should be either attractive to buyers or good refinance candidates.

Importantly, we are seeing new attractive debt and equity investment opportunities with potential total investment returns in the mid-teens or higher.

We want to have as less capital available as possible to invest at BCLs. And recycling existing lower return investment make sense. Now, I need to step some of our new investments this quarter.

Our biggest investment for the first quarter was $68 million to support the buyout of Augusta Sportswear Group. Augusta Sportswear is among the largest suppliers of athletic uniforms in the U.S. Our investment took the four-month secured second lien debt as well as the minority equity co-investment.

In addition, we invested $44 million to support the recapitalization of United Road Towing. United Road Towing is the largest towing and recovery company in the U.S., providing vehicle towing and storage services to municipalities, commercial customers and private property owners. Our investment was in secured second lien debt.

Also in the first quarter, we invested $26 million to support the buyout of Freedom Financial, the second largest debt resolution company in the U.S. Our investment here took the form of senior and subordinated debt.

In addition to originating yields for the BLC, we also focused our attention this quarter on sourcing and originating deals for the Unitranche Fund. During the first quarter, we invested $31 million to support the funds investments in two loans. Unitranche loan product gives borrowers and sponsor certainty of execution in today's uncertain loan markets.

Now, I would like to turn the discussion over to Rob to give you a current picture on private equity marketplace, and an update on recent developments in our asset management activities.

Rob Long

Thanks, Mike. Needless to say, the contraction in the credit markets continues to impact the LBO market, loan pricing and loan structures.

To give you some background on the general markets, let me start with a review of some statistics. First, turn the slide 16, where you can see that the market-wide LBO volume declined dramatically in the first quarter from an average of approximately $100 billion per quarter in 2007 to $47 billion in Q1 ’08. In contrast, we have seen our deal opportunities increased as a result of our Unitranche fund efforts with GE, and the continued dislocation in the senior and second lien loan markets.

Moving to slide 17, we see that much of what is driving the decline in LBOs has to do with the credit markets, where industry wide leverage loan debt multiples have come down significantly in 2008. For the first quarter of 2008, industry averaged debt multiples for leveraged loans show total leverage multiples of 4.6 times EBITDA, down almost 40% from the 7.4 times leverage multiple we saw in the second quarter of 2007.

As you turn to slide 18 however, it is interesting to note that for the LBOs in our middle market that are getting done, purchase price multiples have not yet declined in a meaningful way. In the middle market, private equity sponsors are not able get as much debt capital as they have enabled to get in the past. But, they have continued to buy companies at fairly high prices choosing to put more equity in to deals to get them done.

You can see from slide 19 that equity contributions have increased to over 40% of capital structures. We believe that these market trends create opportunities for Allied Capital as well as our managed senior debt and Unitranche fund. Competitors continue to drop out of the market particularly since securitization capital has become quite scarce. We estimate that there are many financing sources that have left the market or are sitting on the sidelines. As a result, debt terms continue to improve, leverage is down, covenants are tighter and pricing is back up to historical mezzanine pricing levels. In the fourth quarter of 2007, we invested in the junior securities of the CLO vehicle called Knightsbridge, which is a middle market senior loan vehicle created by Deutsche back. We agreed to assume the management of that vehicle and we have hired certain individuals to manage the fund. We are excited about the talented individuals who have joined our senior debt team in New York. Knightsbridge has added about $500 million to our managed asset. In addition, we may invest and take on the management of the second Knightsbridge fund.

The fees we expect to earn from managing the Knightsbridge assets are estimated to be about 60 basis points per annum with an incentive fee tied to performance. We believe that between the Allied capital balance sheet and the investment capital in managed fund, we are well positioned in the middle market as a one stop provider for capital needs. And with that I will turn it back to you Bill

Bill Walton

Thank you Rob. Thank you Mike. Before we open the line for questions, let me review the dividend. The Board is to clear the second regular quarterly dividend for 2008 at $0.65 per share. As Penni mentioned most of 2008 dividend will be paid from 2007 as taxable earnings. Given the substantial capital gains we realized in 2007, our estimate today is that 2008 dividends may have a substantial capital gains component to roughly 70%. The capital gains component of the dividend is typically tax that the lower 15% tax rate for individuals.

Let me summarize a few takeaways from today’s call. First, the recent market correction has reduced competition and we are seeing more attractively priced investment opportunities than we have seen in the past few years. Second, we access both the debt and equity capital markets in the first quarter and intend to continue to raise more capital fund growth. In addition, we are recycling lower return assets, and the higher return assets. And, finally we continue to add new dimensions to our business model through our managed fund business, such as the addition of the Knightsbridge fund. Sia could we now open the line for questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from the line of Vernon Plack of BBT Capital Market.

Vernon Plack - BBT Capital Market

Thanks very much. And, Penni could you repeat the FAS 157 implementation impact on depreciation. I am sorry I didn’t get to that number.

Penni Roll

Oh. It's a net $9.3 million of depreciation.

Vernon Plack - BBT Capital Market

Okay, thanks and Bill, this question is for you. I am just trying to get a sense for portfolio growth throughout the year on balance sheet portfolio growth and given the opportunities in the market place from reduced completion as well as the attractiveness of new investments, just trying to gaze what type of activity that we will see this year in terms of new investments. I know last year, you originated somewhere in the neighborhood of $1.8 billion in new investments, and should we expect a similar number this year or something meaningfully higher or lower than that?

Bill Walton

It's hard to say. There are some conflicting currents right now.

The first quarter, the market really sort of paused to digest the new financing conditions and the constraining factor this year is. There is an awful lot less debt available to finance new transactions. The bullish factor is that there is an awful out of middle market private equity fund money that's un-invested and they are still eager to, I think, continue investing through the year. I think, it’s a little bit contingent also on what happens with the economy? I mean, I don’t think the economy, as we see it from the results in our portfolio except for the financial services fees is as soft as you read about it in the paper. So, we hope to have a very good year for the rest of the year in terms of new originations. I think, particularly on the debt side with the Unitranche Fund, we will see an awful lot there, and I also think we are going to see more attractively priced mezzanine opportunities. Buyouts are little harder to gaze.

As Rob pointed out, the multiples have not come in as much as you would have like given the lack of the leverage available for these. I think we are going to have to wait and see. We still want to try to get these things at attractive prices. You guys want to add anything to that.

Unidentified Company Representative

Okay

Rob Long

The only thing I would say is as you know the first quarter 2007 was a very light quarter for us. But, it was a very robust market though we just didn't find many deals that met our criteria. And, then in the first quarter 2008, we invested $275 million which compares to $170 for the first quarter of last year.

So as Bill said, the environment is getting less active. But we continue and we are finding more deals that are attractive to us.

Bill Walton

I hope would be at this years the last year's level at that pace. But its, and the pipeline was good now. But as always, that’s going to be contingent on things that we don't necessarily control.

Vernon Plack - BBT Capital Market

Sure, and can I assume that investment activity will be weighed a little bit more heavily this year at subordinated debt, if you look at the mix of new investments?

Bill Walton

We hope so. I mean, yield is pointed out of mid teens, and those are very attractive on our balance sheet, and I think that would, this is part of the cycle. If you look back over our investment history, where we would hope to rebuild the portfolio with higher yield in current return assets, it will be, there may be some capital gain opportunities, but that typically is less in this kind of environment. But now is the time to rebuild the ordinary income, and I think we are all very focused on that

Vernon Plack - BBT Capital Market

Thanks Bill.

Operator

Your next question comes from the line of Troy Ward with Stifel Nicolaus.

Greg Mason - Stifel Nicolaus

Hi this is Greg Mason. First, I was wondering if you could talk a little about your portfolio yields rising from 12.1 to 12.3. It was a little surprising to us given the decline in LIBOR this quarter and your new investments were slightly lower yield of 11.4%, what was driving your higher yields in your portfolio this quarter.

Penni Roll

Well, I think this is Penni. With the yields, 12.1 to 12.3 is a significant increase in the overall yield. There are just changes and mixes of assets, as well as evaluation of adjustments that will drive the overall yield in the portfolio. So, as you know we look at the yield and we look at the accruing, investments in the portfolio which we had no new significant non-accruals this quarter, and then, also the current income over the yield of the current value of the portfolio. So when you do that you get a 12.3% overall interest varying yield at the end of the quarter.

Rob Long

But, most of the portfolio of yielding instruments are fixed rate, not floating. So the percentage of floating rate instruments is fairly small.

Greg Mason - Stifel Nicolaus

Okay. And Penni, could you talk a little bit more about the impact of FAS 157. If we will get the year end, you had about $2.8 billion in assets, less than 5% excluding your CDO assets. And, given what bond spreads have done in your bond yield analysis during the quarter, it seems like there would be more than just $9.3 million fair cut. Can you walk us through in more detail what buckets you are pulling from and some more detail on how you get to that $9.3 million.

Penni Roll

Yeah. If you look at the portfolio, we have put the portfolio into two components, the buyout investments and the non-buyout investments. With the buyout investments, we have continued to use our enterprise value methodology, so those are not to value both the debt and equity securities. So, there is no impact of this bond yield analysis on that component of the portfolio. For the non-buyout investment we did continue to use enterprise value to assess credit risks but also did a yield analysis for purposes of valuing the loans and debt securities.

If you look at our overall portfolio, the inputs into that valuation analysis for those loans and debt securities takes into consideration both changes in market interest rates and also leverage levels. And if you look at our portfolio overall in that non-buyout debt portfolio, it tends to be a lower levered portfolio. So, you are getting some benefit from lower leverage in that portfolio as well also looking at the interest rate. So, when you combine the two components together for valuation we ended up with only $9.3 million change in the value of that portfolio from the implementation of 157.

Joan Sweeney

And, just to add to that, this is Joan. We also, for the CLO portfolio we have been using yield analysis for that all along. So, FAS 157 didn’t change our approach to the CLO portfolio.

Greg Mason - Stifel Nicolaus

Could you give us rough estimates of how much was in the buyout bucket versus the non-buyout bucket asset wise?

Penni Roll

Yeah, I don’t have that number here, but we can come back to that.

Greg Mason - Stifel Nicolaus

And, then one last question here on the client in grade 4 and 5 is that $89 million decline this quarter, non-accruals decline $62 million. Could you quantify how much of that decline was due to a write down in fair value of those assets versus actual assets moving out of those categories?

Penni Roll

I know for the over 90 day's delinquency, we did have one asset that moves out of the over 90 category was about $35 million. So, that was reducing the over 90 day's delinquencies. And, I think then the non-accruals, I don’t have the specifics on that but the change there was less for the quarter.

Greg Mason - Stifel Nicolaus

Change there was less, you think people moving, investments moving out?

Penni Roll

No, I said they are changing, so your over 90 days delinquent came down by about $80 million.

Greg Mason - Stifel Nicolaus

Right, non-accruals came down 62 million.

Penni Roll

Right 62, and that I would have to get more details on. I don’t think we had substantial change in the population in the non-accruals for the quarter.

Joan Sweeney

I would, just based on the evaluation most of the change probably came from valuation decline.

Greg Mason - Stifel Nicolaus

Okay, great, thank you, guys.

Operator

Your next question comes from the line of Henry Coffey with Ferris, Baker Watts, Inc.

Henry Coffey - Ferris, Baker Watts, Inc

Still focused on this 157 issue, when you look at the write down in your financial services investments, so it is helpful, you gave us a sense of what you did with BLX, or the new company name. Can you give us a sense of then looking at the rest of the write down in financial services? How much of that was in the CDO, CLO portfolio?

Penni Roll

Yes, I think this CLO, CDO portfolio net decline was about $11 million for the quarter of that component.

Henry Coffey - Ferris, Baker Watts, Inc

And, I know you talked about this before, you are using, well I won't guess the number, what yield are you using in aggregate when you're evaluating that portfolio.

Rob Long

Actually, this is Rob Long. We have been using yields of 22% to 23% depending on the collateral mix of the underlying assets in each different CLO for the equity assets. For the bonds, we used the levels that we are quoted by trading debts on Wall Street. One thing that's important to note here is that the training levels have obviously fallen sharply with the decline in the financial asset. But the new issue market is a more opaque market. And to do a new CLO today, you can no longer get the same capital structure that you use to get. So, in fact, the yields available in today's market are probably significantly below the levels we have used.

But, we have used these levels because they are closer to what people think the secondary levels are, although there is very little real secondary trading of these private securities. And so as you look forward, we are beginning to see AAA buyers come back to the market. We have seen several new CLOs and one look at the new markets and we get quoted from our various dealers, more or like an 18% to 20% equity return today. But, we use 22% to 23% as of March 31st

Henry Coffey - Ferris, Baker Watts, Inc

And, you had made this comment before, your cash flow is coming from that portfolio, other write downs because the cash flows are lower or the write downs because your yield analysis and your market quotes are pushing value down?

Rob Long

It's an important distinction, because the performance of our portfolio CLO investments are at or above expectations in each case. So, we don't have any impairment that are driven by deterioration in credit. Obviously, the defaults have been quite low in the market place overall during this period. So, this is virtually 100% of function of the change in valuation in the market place.

Henry Coffey - Ferris, Baker Watts, Inc

And, I just missed two things on the call. Penni, you had mentioned what the spill over income was?

Penni Roll

No, that's okay. The spill over income from 2007 into 2008 is about $400 million. And in addition to that we have installments settle gains of about $235 million related to installment notes that would come in the future.

Henry Coffey - Ferris, Baker Watts, Inc

And, then Knightsbridge, you also had an investments in all bridge, are they related?

Rob Long

No, those bridge are..

Henry Coffey - Ferris, Baker Watts, Inc

I know, I was just listening to it and trying to catch all the details. Those are clearly different companies.

Rob Long

Yes, all bridges in the real estate area.

Henry Coffey - Ferris, Baker Watts, Inc

And Knightsbridge is?

Rob Long

This is a middle market senior loan area.

Henry Coffey - Ferris, Baker Watts, Inc

Okay, thank you. Thank you very much.

Operator

The next question comes from the line of Eli with Merrill Lynch.

Eli Lilly - Merrill Lynch

Hi, you mentioned that the yields on your new investments this quarter would not necessarily reflect to the opportunities currently available? What kind of yield could we see maybe next quarter based on current pricing? If you say, kept the same asset mix?

Bill Walton

I think what we are seeing on the subordinated debt investments is coupons that are receiving 14%, 15% right now, which is a significant change from what we saw even three or six months ago. So, as we shift the mix towards subordinated debt investments and those coupons are themselves are higher, it should raise the overall mix of the new investment portfolio.

Eli Lilly - Merrill Lynch

So, when we are looking at 12.3% for the first quarter, what could that look like, say I know you would just be guessing, but in the second quarter if you want to base it on the mix shift and also the improvement in pricing?

Penni Roll

Well, I mean, clearly the current portfolio and if you compute the yield at March 31st and that 12.3 is based on assets that are accruing in the portfolio over their fair values, and the adjustment for the interest bearing portfolio is quite large. So, even if we put I don’t know, pick a number, $0.5 billion on the books in the second quarter. It's not going to move the yield appreciably just because you have got the existing portfolio there, the weighted average yield of 12.3%.

Eli Lilly - Merrill Lynch

Right.

Penni Roll

So what I think we are seeing is that our yield opportunity from the market are better and we are being very selective to make sure we are hitting those mid teen yield. But, its going be a while before you see it meaningfully moving the total portfolio yields up.

Mike Grisius

The important thing to know that I'll add is that even though our cost to capital is a bit higher in this market environment, we think the return opportunities are very strong. So, the opportunity to deploy capital in a very accretive fashion is pretty abundant in this marketplace. So, between the secondly lean markets pretty much being shut down and so sub debt is now back and we think the returns there are kind of 14% to 15%, as John had mentioned. And you coupled that with the Unitranche fund, which offers returns kind of mid teens and possibly higher depending on the performance of that portfolio, you should start to see the yield on our overall portfolio bump up.

Rob Long

And, the one other point which was what Bill mentioned earlier, we have a number of senior loans in the balance sheet that we will be refinancing in coming quarters, and I think that will also have an affect on raising the average yield on the portfolio, because some of these were senior loans that were done at the time of closing of buyers and some of them as Mike said were loans that we entered into in 2007 to be conservative with our approach to the market. Now it’s time to have these loans refinanced and we would expect some positive benefit on total yield from that activity.

Eli Lilly - Merrill Lynch

Right. And, what level of recycling do you think is possible in the current environment for ’08? I guess, may be you recycled somewhere in the neighborhood of 50% in ’07. Do you think ’08 would be more or like 25% given?

Penni Roll

Well, I think, what you're going to see it, we are not anticipating a lot of normal course repayment activity. I mean, that is come by. So, I don’t think people are going to be clamoring to refinance to get cheaper interest rate.

Eli Lilly - Merrill Lynch

Alright but…?

Penni Roll

And, I think we have going for us and I think this is kind of bears on the FAS B157 question is, we were really fortunate. You know while others were being very aggressive lenders in late 2006 and early 2007, and accepting very highly levered instruments into their portfolio, we didn’t do that. We went up the balance sheet. We went into senior debt and went into Unitranche and we did a fair amount of Unitranche lending at, let’s say 4.5 times. In fact, if you look at our slide that we have on our website that shows kind of our last dollar debt over the last several quarters. You'll see, we accepted instruments that were pretty conservative with respect to their leverage position in a portfolio company. As a result, and particularly with the Unitranche instrument, I mean, those are fixed rate instruments. So, we see the opportunity here for portfolio companies to actually benefit from a falling LIBOR environment, refinance, and actually get, perhaps, benefit in terms of cost to capital by refinancing. Hard to say, how much of that's going to happen? We are hopeful that we can achieve couple of hundred million dollars maybe, just to use a conservative number. But that is what we are actively pursuing.

Eli Lilly - Merrill Lynch

Okay, thank you.

Mike Grisius

Let me ask something to that to particular, I just want to emphasis the point that John made. A lot of this was by design. We look out in the market place in 2006 and 2007 and we were aghast quite honestly what other financial institutions were doing in terms of the capital they were deploying at the peak of the market where they are taking on and off of lots of risk at very low returns. And, we look out into the market place as much as we think we are very good investors and I think our track record speaks for itself in that respect. We also thinks that we are very good allocators of capital and in 2006 and 2007 we said this is not the time to move way down balance sheet, leverage deals too much at real order to the terms. Let's move up balance sheet except a little less return, but there will be opportunity again as we have seen throughout our history to recycle that capital and deploy it in a smart fashion in the market like we see today. So, you will see us doing that this year quite actively.

Penni Roll

Also before we get to next question, I just wanted to follow up on an earlier question. We got the number now. The non-buyout debt portfolio is about $2 billion for the person who ask the earlier question.

Operator

Your next question comes from line of Dan Furtado of Jefferies.

Dan Furtado - Jefferies

Good morning. Just couple of quick questions here. Do you have the face value of your loans on non-accrual and when pass due?

Penni Roll

Not with me. In our financial statements, we present the information on the portfolio value, because the view is that, the value is what is represented on our financials of any kind of unrealized appreciation is already has been run through the income statements. So we don't have the face value of that particular item, we just close that as value

Dan Furtado - Jefferies

And that will be in the queue, I guess?

Penni Roll

That will be in the queue.

Dan Furtado - Jefferies

And, another question in terms of cost of financing, I know that the warehouse line is now L plus 250 all in. Is that from L plus 150 I can't recall?

Penni Roll

Yeah it was before it was L plus 125 all in

Dan Furtado - Jefferies

Okay

Penni Roll

That implies right into 25 or 20 basis points commitment fees. So it's in fact, doubled.

Dan Furtado - Jefferies

Okay and then can you help me, think about just how you guys look at long-term financing in the space from your liability standpoint. I know that you floated bonds in the past to kind of basically act as a takeout for the warehouse line. What do you see, when you look at it, is that really the probable option going forward here.

Penni Roll

Well, as you know we borrow in the both five medium term note market and as well as the public investment grade market and our preference obviously is to borrow 5 to 7 year fixed rate long-term debt, because that naturally matched funds are typically 5 yearish fixed rate debt portfolio. So, that will be our continued plan as we move forward. We have not been users of securitized debt. We are more an unsecured borrower, investment grade and that's going to be our plan as we move forward.

Dan Furtado - Jefferies

And, what do you think the cost of floating one of those bonds would be today and what's your interest cost would be on a new issuance?

Penni Roll

I am sure the spread of the Treasury from what we have gotten in the past has gone up. I mean, I think, if you look at it, we are Triple B and Triple B-plus in terms of our ratings. So, if you look and see what investment grade borrowers are doing to those spread over Treasury, you are going to see, I am sure that it's wider. We have not gone out to market yet. So, it is a little hard to speculate on that, but I would assume it's gone up.

Dan Furtado - Jefferies

Right, but you don't have in, like you haven’t thought about where those funding costs have gone.

Penni Roll

Well as I say, we anticipate that they are going to go up. The good news is the comparable 5 year treasury is way down. So, all in on a fixed rate it will be, we will have to see where it comes in.

Dan Furtado - Jefferies

Okay. So basically, I guess 6.4% is what your weighted cost all in was on the old debt. You would expect that to remain relatively unchanged?

Penni Roll

I think the weighted cost will go up less obviously dramatically than any marginal, but I would assume the marginal. If you look out there and you see what Triple B borrowers are getting, it's well in the 450 to 500 over treasury range. If you put that at today’s treasury, I mean you are looking somewhere 8% to 9%. So, your margin was going up there, I would assume, and then your weighted is going to be--

Joan Sweeney

Impacted by that.

Penni Roll

Impacted by it.

Dan Furtado - Jefferies

Got you. Thanks. That helps frame it up. And then, on this deferred income and I don’t mean to beat the dead horse here, but you say that you have the ability to defer until it's either sold or collected in cash. Are those outcomes affected by your own actions? And by that I mean can you basically carry this deferred income out in the perpetuity or is there a dead bond on when this has to be used?

Penni Roll

Well the part that we can influence is that someone chose us to repay the note.

Joan Sweeney

If they want to repay us, it happens

Penni Roll

Can influence, if we decide that we didn’t want to wait for a repayment, we could look for a buyer for the note.

Dan Furtado - Jefferies

Got you. And what’s contractual maturity date on that?

Penni Roll

I don’t know. There are several notes, but I think they are somewhere between 7 and 10 year contractual maturities.

Dan Furtado - Jefferies

Perfect. Thank you for the help. I appreciate it.

Operator

Your next question comes from the line of Ryan Hogan with Piper Jaffrey.

Ryan Hogan - Piper Jaffrey

Yeah. Thanks for taking my call. My questions, on the dividend I guess, obviously not the most profitable time to sell investments and most of the dividend in the past two years at least come from capital gains. How long do you expect the dividend to be covered by operating earnings?

Penni Roll

I am not sure I understand the question. Can you say it again?

Ryan Hogan - Piper Jaffrey

Yeah. How long would it take for you to cover the dividend from operating income?

Rob Long

Operating income?

Penni Roll

Okay. Well, if you look at where we are in terms of this spill over ending December 31, 2007 that’s about $400 million. The first quarter’s dividend was about $108 million. So, assuming that we have raised additional equity capital throughout the rest of the year, I assume that our dividend need for 2008 will be over the hundred million, a spill over not significantly, but we will have 2008 spends go over earnings to go into 2009. What the mix of net investment income versus capital gain income for 2008 earnings or 2009 earning, too soon to tell. But, if you look at the spill over, you can see we have got several quarter already accounted for, just with the spillover in the installment, I mean it's already there.

Mike Grisius

I can't give you a mathematical explaining or give specific date, but we are focused on ordinary income and taking advantage of this market to book more high yielding debt investments. So, I think if we get enough of that done, that's going to have an impact on our ordinary income and we will get more coverage there.

Rob Long

The one other thing to point out is that we mentioned earlier the price of assets as measured by the price paid in LBOs has actually not fallen very much. And so, while your, you stated in your question that you thought it wasn’t a great time to sell assets. It's interesting to note that the asset prices themselves have actually been staying pretty high. So, you may not conclude that there are no capital gains, and in fact in the first quarter, there was $17 million of dividend from our equity portfolio. So, this is a somewhat of a uncertain outlook as you never know what you are going to do with equity, but at least in today’s market the equity prices have held up pretty well.

Ryan Hogan - Piper Jaffrey

Sure, and then just kind of a house keeping thing the actual dividend, is that just a one time dividend or is that on going?

Penni Roll

Probably one time.

Ryan Hogan - Piper Jaffrey

Alright. And then, on the, your views on the economy? There, I think you said, the economy is not that soft as read in the press. What are your views and where are you seeing opportunities in today’s economy?

Bill Walton

Well, I think if you look at our portfolio, we have deliberately avoided some of the sectors that have been hurt pretty badly, construction, residential in particular, and some of the more cyclical industries. And I think, our continued focus is going to be on business services to a lesser extent may be some small taking consumer products things like that. I think it's a good opportunity there. I would say particularly business services, which produces in our view very high return on capital and very fairly predictable cash flow.

Mike Grisius

I would just add, couple of our portfolio company's that are after market parts side, maybe over the last couple of quarters didn't declined but may be slow down a little bit and in the more recent months we have seen that start to pick back up again. So, I don't know if that's a leading indicator not, but you know to bill's point, I don't think we've invested that heavily in highly cyclical business.

Rob Long

We have always focused on high return on net assets business is that to have higher free cash flows. We're conscious of what is the level of capital expenditure that are required to maintain the existent infrastructure, better investment. And, that's how we built the overall portfolio and those things to do relatively better in softer economic times.

Bill Walton

I guess the other way to answer is, we don't see ourselves particularly, our skills set is not to predict the macro environment. Our skill set is really to function in a micro-economic way, picking business models and we think we're going to do well in almost any kind of macro-economic environment. And, I think that's why we feel, we are pretty well positioned even if the economy does deteriorate this year with company's that are likely to get through in pretty good shape. But, we are hopeful to add to the portfolio. We have franchisors and insurance service businesses and things like that and we would hope to continue to invest in that area.

Ryan Hogan - Piper Jaffrey

Alright, thanks.

Operator

Your next question comes from the line of Robert Dodd with Morgan Keegan.

Robert Dodd - Morgan Keegan

Hi guys. Coming back to the senior debt in terms of looking at selling some of that or getting off your balance sheet, would you be looking to move that to third parties or given the fact that you obviously like the credits, otherwise you wouldn't have invested. I mean, in the first place, would you be looking to sell those to the senior debt fund?

Penni Roll

If you look at, some of the assets, maybe appropriate for the senior debt fund or the Knightsbridge fund, but in addition some of the senior debt investing in the first quarter were to portfolio companies that we control where we're actually looking at just recapitalizing the senior portion of the balance sheet with third party lenders.

Robert Dodd - Morgan Keegan

Thanks, got it. On middle market valuations, obviously the numbers haven't come down. I mean, and I realize I'm asking you to pull out a crystal ball here, but I mean how do you think that's going to play out through the course of the year. Obviously, if the valuations come down, it's a less opportune time to sell investments, but it's a better time to invest if they stay up maybe, don't want to be investing in some of those buyouts. Can you just give us a base case of how you looking at progressing through the course of the year?

Bill Walton

The various factor here is, there is less debt available to finance transactions. The bullish factor is that there is an awful lot of private equity capital that's un-invested and a great deal of these companies now are owned by private equity firms and they need to sell companies in different parts of the cycle to deliver capital back to their investors. And so there is a built-in force in the system. Its going to cause companies to continue to come to market and the flip side of that is buyout firms are eager to reinvest their capital, which I think will provide a market for this companies. The last cycle we didn't have as much buyout money there, so it’s slowed considerably and also multiples came in a great deal. We are not anticipating that. Although, as I said if the economy deteriorates noticeably in the next quarter or two that could change?

Rob Long

One other thing to remember is that when we do a buyout, we have the ability to provide a commitment for all of the capital including the senior debt. And, because we offer a higher level of certainty of execution, our relative position as a buyer is improved in this environment and that goes to what Joan was talking about earlier. We then can syndicate the senior loans after we’ve done a buyout. So, this model is particularly powerful at times of weak credit markets, but it will remain to be seen how the prices evolve over the year.

Robert Dodd - Morgan Keegan

I mean I guess that, that’s probably my question. With so much capital on the sidelines still in those middle market private equity funds, don’t they have a somewhat of an artificial factors in terms of sustaining the multiples up here and is that a negative for your ability to deploy because you just don’t want to compete with just significant amounts of access capital just floating around out there?

Bill Walton

Well, I think the focus would be then, if that remains the case, the focus on the debt piece of the business at the high yields that are available today. And, I think that would be more of emphasis this year as that it has been in the couple of years past. So, that’s the nice thing about our business model. We allocate capital depending on what we think the capital markets are serving up is the most attractive opportunity and maybe lot of debt investing this year that we do rather than buyouts.

Robert Dodd - Morgan Keegan

Okay, got it. And, one last question, if I can, I can’t remember whether the real estate loan compete, is it expire at the beginning of this month or at the end of this month or whatever but tell us how you look--?

Bill Walton

I am not sure of the day, but it's this month.

Robert Dodd - Morgan Keegan

Yeah, I mean, how are you looking at that right now going forward?

Bill Walton

Well, we are looking at a lot of different vehicles through which to re-enter the commercial real estate business, some of it might involve setting up something to get back in the CMVS business, some of it might be whole loans. I think, with CLO we are looking at some origination businesses there in commercial real estate. There are probably five or six ways, we will do it and we are working on and we probably should have some things to talk about in the next quarterly conference call. But, we are very active right now and trying to figure out how to re-enter.

Robert Dodd - Morgan Keegan

Okay, great, thank you.

Operator

Your next question comes from the line John Stilmar with FBR.

John Stilmar – FBR

Good morning, thank you very much for taking my question. It start with just going back to the senior debt and just by my math, I guess, you guys have around give or take $300 million of senior debt in both your controlled and non-controlled investment. If that's the case, there is the opportunity to refinance that debt. What is the catalyst that would do it let's call coax the customer into refinancing a lower spread date. Is it the sponsor selling the business, or is there some other value proposition would be the catalyst to refinancing that and how does that necessarily work? Would you take senior data as part of Unitranche in refinancing or, how does that kind of things work, if you might be able take me through some of that maths?

Rob Long

Hi, there is three ways that a borrower would want to re-finance and that are relevant to us. The first is, John mentioned earlier is, we did a number of Unitranche's, which might not be in your 300 million number also, that as rates have fallen, you can refinance on a floating rate basis at a lower price than we have financed them last year on a fixed rate basis when LIBOR was 250 basis points higher.

Now the spreads are attractive for them. The second thing is that we try to find companies that have a rapid pace of repaying debt. So, if you start at below market leverage level, and you have a fast level of cash flow repaying the debt, you can fall into a level, where you are no longer high levered and you can refinance sometimes in the asset backed market, at very low spreads of LIBOR plus 200 and so that's no longer relevant for our market.

So those two are natural form of de-levering that’s going on and a natural form of recycling our loans. And, the last is very important as I said earlier, if we’ve done a buyout and we've committed to the senior debt, there is a meaningful amount of that debt capital that comes on our balance sheet for a while. And, then it's refinanced after we close the transaction.

We have syndicated two loans in the last three months. One of which was for Norwesco. It was a $105 million loan. It gets distributed to the loan market. One of our funds may take a small piece, but not all of it. So, we are in this syndication business, and we have several more syndications planned for several of our company's in the coming month.

John Stilmar – FBR

Can you talk to me about the health of the syndication market? It certainly was very choppy in the first quarter, has it stabilized or improved and could you talk to me a little bit about the buyers, because it's my understanding that end market or syndicature, those numbers of buyers has certainly dwindled significantly, and I am not just talking about, like the structured finance buyers. They are in the bigger markets.

But, the banks and financial institution seemed to be still have an appetite, but they seem to be less? Is that a fairer characterization and how would you characterize that part of market?

Rob Long

Well, if we look at some statistical data points around at the peak last year, there was $250 billion of leverage loans on investment bank and, commercial bank balance that needs to be sold. And, that was the big over hang, and it clearly created the biggest negative impact on the senior debt market during this credit cycle. That number felt to $95 billion at the end of the first quarter and is falling fairly rapidly right now as banks continue to sell off and discounts these loans. What effectively happened is that the large market for billion dollar plus loans was virtually closed and there has been to my knowledge only one new commitment, which is the Berkshire Hathaway candy [ph] backed deal.

The large market is really where the problem is. In the smaller market, in the middle market where we operate, there are still regional banks that are probably the most active and some players, like Allied Capital, that remain active. So, for a loan it’s in the $75 million to $200 million area, we are seeing activity continue agitatedly with much lower levered capital structures and much higher pricing. But, there is a regular steady flow of middle market loans being done by GE, ourselves, and others.

John Stilmar – FBR

Okay. And, then finally, I guess this is a question either for Penni or Bill just sort of with regards to thinking about equity raises in the future. Just my real quick back of the envelope math is, you guys invested about $209 million of new investments this quarter, but you received $264 million of principal proceeds and then if you also add another $69 million of NOI, you raised equity and it looks like you used some of the equity maybe to retire debt initially? Can you talk to me at all about the, it seemed like an interesting time for you guys to be raising equity and then the choice to sort of paying down debt. How shall we be thinking about that in the future and then how do you think about equity with regards to the capital structure, sort of the opportunity relative to the cost?

Bill Walton

Well, I think, let me say the leverage was a little bit higher at the end of the last December 31, and we normally like to run. I think it's like 0.8 to 1, and we like to run at 0.6, 0.7 to 1. So, some of that was just to get leverage where it is. And, I think going forward we like to raise equity and medium term debt either publicly or privately in that ratio. We have to take out basically taking out loans that we've financed through the use of the revolving credit. So, I think that’s all that really happened there. So, we would hope to as we see opportunities to invest and build the portfolio, we will raise equity and debt in that proportion.

John Stilmar – FBR

Great. Thank you all very much.

Bill Walton

Okay. Sia, well let’s take one more question.

Operator

Your final question comes from line of Troy Ward with Stifel Nicolaus.

Troy Ward - Stifel Nicolaus

Hi. Yes. One additional follow-up on FAS 157 issue, sir, I am still trying to get my hands around it. If we take that $2 billion non-controlled portfolio you talked, $93 million charge is about a 45 basis point right down in price. Obviously, the lower leverage indicates a much higher quality of loan, but even if we just pulled out single A levered loan pricing, those spreads widened a 100 basis points in the quarter and pricing went down 3% versus your mark of 45 basis points. So, I am having trouble understanding how the low leverage fully or almost all offset the higher spread we are seeing in the market place today. Could you give us little more explanation there?

Bill Walton

Let me give you some comments on this part of the exercise is to look at the change in markets from the previous period. And as I mentioned earlier, a lot of our debt securities have very high cash flows that pay down debt. So, while you may start with the certain level of leverage, as you model the FAS 157, if you're debt is coming down rapidly on a credit, it's an improving credit. And, as I also mentioned earlier, some of our credits get refinanced out of much lower rate. So, it’s not constant across the years. Our portfolio has a little bit of built-in improving trend. The other thing is important to say is the bulk of these assets are in the fixed rate mezzanine market and as the data point, this market has moved not very much in price. Keep in mind it's got a much higher coupon than what’s you looked at. It's referred to as a single aid bond price. So, the high coupon limits the volatility of price in that, assets and in fact we look at market indicators there as well. So, it’s just not as volatile as a lower yielding bond would be and there is a benefit of the de-levering. That’s natural in our portfolio.

Troy Ward - Stifel Nicolaus

Okay, great, thank you.

Bill Walton

Okay, thank you all for attending our Q1 conference call and we will back, talking with you at Q2 and hopefully be talking about lots of interesting new investments we booked and also give you some progress on our managed funds and our real estate initiatives. Okay, thanks everyone.

Operator

Thank you for participating in today’s Allied Capital Q1 2008 Earnings Call. You may now disconnect.

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