Main Street Capital Corporation (MAIN) Q4 2015 Earnings Report, Transcript and Summary

Greetings. And welcome to the Main Street Capital Corporation Fourth Quarter 2015 Earnings Conference Call. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Jenny Zhou. Thank you. You may begin.

Thank you, Christine, and good morning, everyone. Thanks for joining us for the Main Street Capital Corporation fourth quarter and full year 2015 earnings conference call. Joining me today on the call are Chairman and CEO, Vince Foster; President and Chief Operating Officer, Dwayne Hyzak; and Chief Financial Officer, Brent Smith. Main Street issued a press release yesterday afternoon that details the company's fourth quarter and full year 2015 financial and operating results. This document is available on the Investor Relations section of the company's website at mainstreetcapital.com. A replay of today's call will be available beginning about an hour after the completion of the call and will remain available until March 4th. Information on how to access the replay is included in yesterday's press release. We also advise you that this conference call is being broadcast live through Internet webcast that can be accessed on the company's webpage. Please note that information reported on this call speaks only of today, February 26, 2016, and therefore, you are advised that time-sensitive information may no longer be accurate at the time of any replay listening. Our conference call today will contain forward-looking statements. Many of these forward-looking statements can be identified by the use of words such as anticipates, believes, expects, intends, will, should, may, and similar expressions. These statements are based on management's estimates, assumptions and projections as of the date of this call, and they are not guarantees of future performance. Actual results may differ materially from the results expressed or implied in these statements as a result of risks, uncertainties and other factors, including, but not limited to, the factors set forth in the company's filings with the Securities and Exchange Commission, which can be found on the company's website or at sec.gov. Main Street assumes no obligation to update any of these statements unless required by law. During today's call, management will discuss non-GAAP financial measures, including distributable net investment income. Please refer to yesterday's press release for a reconciliation of these measures to the most directly comparable GAAP financial measures. Certain information discussed on this call, including information related to portfolio companies was derived from third-party sources and has not been independently verified. And now, I'll turn the call over to Vince.

Thanks, Jenny, and thank you all for joining us today. I will comment on the performance of our investment portfolio, discuss our recent dividend announcement and conclude by commenting on our investment pipeline. Following my comments, Dwayne Hyzak, our President; and Brent Smith, our CFO, will cover our operating performance in more detail and comment on our fourth quarter financial results and originations and exits, our recent announcements, our current liquidity position and certain key portfolio statistics in our expense ratio, after which, we will take your questions. Our investment portfolio delivered solid operating results during the fourth quarter. Our lower middle market investment portfolio, our primary area of focus appreciated by $11 million on a net basis, with 18 of our investments appreciating during the quarter, and 17 depreciating. Our middle market loans depreciated by roughly $24 million during the quarter on a net basis and our private loans depreciated by $5 million during the quarter. We finished the quarter with a net asset value per share of $21.24, a sequential decrease of $0.55 a share over the third quarter. We estimate that at least 40% of our middle market depreciation during the quarter was technical in nature rather than due to company specific credit or industry issues. The various leveraged loan indices experienced similar declines in valuation. Excluding this impact and the impact of our $0.275 share semiannual supplemental dividend paid in December, our net asset value per share would have ranged from being flat to slightly down during the quarter. Our lower middle market companies with nearly $132 million of cash on their balance sheets continue – collectively continue to exhibit highly conservative leverage ratios on a relative basis, which Dwayne will cover in greater detail. Earlier this week, our board declared regular monthly dividends for the second quarter of $0.18 a share for each of April, May and June of 2016, maintaining our first quarter dividend payout amounts. The ex-dates for these dividends are March 17, April 19, and May 8 respectively. These dividends represent an increase of 3% over the monthly payout of $0.175 a share in the second quarter of last year. As I referenced earlier, last December we paid a semiannual supplemental dividend of $0.275 per share; 2015 represented our fourth consecutive calendar year of supplemental dividends beginning with the 2012 dividend declared in the fourth quarter of that year. We continue to expect we will pay supplemental dividends in addition to our regular monthly dividends as long as we're in a significant undistributed taxable income position. We therefore currently expect to ask our board to declare a semiannual supplemental dividend in June in a range of $0.25 to $0.30 a share. As of today, I characterize our investment pipeline is normal. However, for the first time in recent memory we are seeing improved pricing and structures across the board in lower middle-market private loan and in the middle market areas. We continue to seek and receive significant equity participation in our lower middle market investments and as of quarter-end, we owned an average of 36% fully diluted equity ownership in the 96% of these investments in which we currently have equity exposure. We continue to create financing capacity for our new lower middle market and private loan investments with exit proceeds for our middle-market portfolio. On a cost basis, our middle-market portfolio declined by about 8% in the fourth quarter relative to the third quarter. And we expect that this trend will continue depending upon the relative opportunities we’re seeing in these three areas. As of today, we have a number of lower middle market investments in various exit discussions some have valuations materially in excess of our carrying values. Of course, none may result in completed transactions. Our officer director group has continued to be regular purchasers of our shares investing approximately $800,000 during the fourth quarter. With that I would like to turn the call over to Dwayne Hyzak, to cover our portfolio performance in more detail.

Thanks Vince, and good morning everyone. We are pleased to report another quarter and another year during which we generated distributable net investment income in excess of our recurring monthly dividends and continued favorable performance from our lower middle market portfolio. We believe that our unique investment strategy focused primarily on the underserved lower middle market combined with our efficient operating structure provide a unique value proposition that differentiates Main Street from most yield oriented investment options and has generated the premium total returns realized by our shareholders. At this year-end period, we’d like to take a few minutes to look back at our history and recap the benefits of our unique investment strategy and efficient operating structure have enabled us to deliver to our shareholders. Since our IPO, eight years ago, our investment strategy and operating structure have resulted in operating performance that has allowed us to grow our recurring monthly dividends per share by 64% and pay cumulative shares to our shareholders about $0.17 per share, greater than 110% of our IPO price at $15 per share. Our shareholders have also benefitted from stock price appreciation of over $13 per share or an additional return in excess of 85%. As we discussed in prior quarters, we believe that the primary driver of our long-term success has been and continues to be, are focused on the underserved lower middle-market, and specifically our investment strategy of investing in both debt and equity in the lower middle market and acting as a sponsor and a partner to the management teams of our lower middle-market portfolio companies and not just as a financing source. Over the last few quarters, we provided some highlights of different contributions from our lower middle market companies to demonstrate the significant benefits of our unique investment strategy. This quarter we’d like to highlight several reasons why we believe that our structure as a publicly traded BDC with the significant benefits of permanent capital is a perfect match with our focus on investing in the lower middle market. First, we believe that our permanent capital structure allows us to be an ideal partner for owners of privately held businesses that are seeking a liquidity event as we can represent a permanent substitute partner for a retiring business partner or family member, eliminating the concerns typically associated with the limited holding periods required by traditional private equity fund structures. This flexibility allows us to complete transactions based upon beneficial structure considerations, as opposed to solely owned price, generating what we believe are highly attractive investment opportunities. Second, our long term expected holding period has generated a diversified portfolio of matured companies with reasonable leverage providing these companies the ability to work through negative economic cycles and take advantage of opportunities as they arise. Our long term holding period also provides for less frequent portfolio turnover, resulting in improved portfolio diversity each quarter and providing opportunities for increased dividend income as the portfolio of companies continue to mature. Our long term approach is best demonstrated by the fact that we currently have 13 companies that have been on our investment portfolio for greater than eight years. We believe that the benefits of our lower middle market strategy are the key to our historical and future success. Consistent with prior quarters, the contributions from our lower middle market portfolio continue to be well diversified with 46 of our 68 lower middle-market equity investments having appreciation as of December 31, and with the 29 companies in our lower middle market portfolio or approximately 67% of our investments in flow through entities for tax purposes contributing to our dividend income over the last 12 months. We believe that the diversity of our lower middle market portfolio is very important when analyzing the benefits of our lower middle-market equity investments, and we believe that this diversity provides visibility to the recurring nature of these benefits in the future. As Vince previously mentioned, we continue to have ongoing exit activity discussions on several lower middle market companies given the nature of our large and diversified lower middle market portfolio. We were pleased that as a result of these activities in early January we were able to announce another favorable exit of the lower middle market investment to the exit of our investments in Southern RV. This exit resulted in a realized gain of $14.4 million and a cumulative internal rate of return of approximately 46% on our combined GAAP and equity investments. With that our unique investment focus on a combination of senior secured debt with meaningful direct equity investments, it will be very difficult to deliver these types of returns and benefits to our shareholders. Now turning specifically to our investment portfolio at year end and our investment activity in the fourth quarter; we are pleased to report that our overall portfolio performance remained strong. Our investment activity in the fourth quarter, included total investments and our lower middle market portfolio of approximately $36 million, primarily as a result of our investments in two new portfolio companies, which after aggregate repayments on debt investments and return of invested equity capital resulted in a net decrease in our lower middle market portfolio of approximately $10 million. As Vince previously referenced, we had a net decrease on our middle market portfolio of approximately $59 million, and a net decrease in our private loan portfolio of approximately $5 million. As a result, at year end we had investments in 197 portfolio companies that are more than 50 different industries across the lower middle-market, middle-market and private loan components of our investment portfolio. The largest portfolio company represents approximately 2.9% of our total investment income and approximately 3% of our total portfolio of the fair value with the majority of our portfolio investments representing less than 1% of our income and our assets. Additional details on our investment portfolio at year end are included in the press release that we issued yesterday, but I’ll touch on a few highlights. Our lower middle market portfolio included investments in 71 different companies at year end, representing approximately $863 million of fair value, which is greater than 25% above the cost basis. At the lower middle market portfolio level, the portfolio is median, net senior debt to EBITDA ratio was a conservative 2.3 to 1 or 2.4 to 1 including portfolio company debt which is junior in priority to our debt position. As a complement to our lower middle market portfolio, in our middle market portfolio we had investments in 86 companies, representing approximately $587 million of fair value, and in our private loan portfolio we had investments in 40 companies, representing approximately $248 million in fair value. The total investment portfolio at fair value at December 31 was approximately 108% of the related cost basis and we had six investments on nonaccrual status, which comprised approximately 0.4% of the total investment portfolio at fair value and 3.7% at cost. In summary, Main Street's investment portfolio continues to perform at a high level and continues to deliver on our long-term goals. With that, I will turn the call over to Brent to cover our financial results and liquidity position.

Thanks, Dwayne. We are pleased to report that our total investment income increased by 12% for the fourth quarter over the same period in 2014 to a total of $43.5 million; interest income increased by approximately $5.3 million, dividend income increased by approximately $0.1 million and fee income decreased by approximately $0.5 million when compared to the prior year. The amount of income that is less consistent on recurring basis was approximately $1.3 million or $0.03 per share in the fourth quarter of this year, which was lower by $0.02 per share compared to the fourth quarter of 2014. Fourth quarter 2015 operating expenses excluding non-cash share based compensation expense increased by $2.1 million over the fourth quarter of the prior year to a total of $13.3 million. The increase was primarily the result of a $1.5 million increase in interest expense due to a higher average outstanding balance under our revolving credit facility and the issuance of our investment grade notes in November of 2014 and approximately $1.1 million related to compensation and other general and administrative expenses. These increases were partially offset by an increase of $0.5 million in the cost allocated to our external investment manager. The ratio of our total operating expenses excluding interest expense as a percentage of our average total assets, which we believe is a key metric in evaluating our operating efficiency was 1.4% on annualized basis for the fourth quarter. It continues to compare very favorably to other BDCs and other yield oriented investment options. Our increased total investment income and the continued leverage of our efficient operating structure resulted in a 10% increase in distributable net investment income for the fourth quarter of 2015 to a total of $30.2 million or $0.60 per share, exceeding our recurring monthly dividends paid for the quarter by over 11%. Our external investment managers’ relationship with the HMS Income Fund benefited our net investment income by approximately $1.9 million in the fourth quarter of 2015; through a $1.2 million reduction of our operating expenses for cost we charge to the external investment manager for services we provided to it, and $0.7 million of dividend income from the external investment manager. We recorded a net realized loss of $12.3 million during the fourth quarter, primarily relating to the restructuring of a private loan debt investment and the exit of a lower middle market investment. And as Vince discussed, we recorded net unrealized depreciation on investment portfolio of $19.5 million in the fourth quarter, primarily relating to $24.2 million of net depreciation on our middle market portfolio, $5.2 million of net depreciation relating to our private loan portfolio and $5 million of net depreciation relating to our external investment manager, primarily due to the external manager, market comparable is trading down during the quarter. This net depreciation was partially offset by net appreciation relating to our lower middle market portfolio of $10.9 million and $4 million relating to our other portfolio. Additional details for the change in our net unrealized appreciation can be found in our earnings release. Looking forward to the first quarter of 2016, we wanted to provide an update regarding the market movement relating to our middle market portfolio. The overall market from – the middle market debt investment has continued to trade down during the first quarter. Based on our static middle market portfolio as of December 31, 2015 not taking into account any new investments or sales or repayments during the first quarter, and based on quoted market prices for underlying middle market debt investments, our middle market portfolio has incurred approximately $14 million to $15 million in net unrealized depreciation to this point in the first quarter. This level of market movement is generally in line with the lower market indices during that time period. Our operating results for the fourth quarter of 2015 resulted in a net increase to net assets of $7.5 million or $0.15 per share. On a capital resources front, our liquidity and overall capitalization remained strong. At the end of the fourth quarter, we had $20.3 million of cash, $3.7 million of marketable securities, and $264 million of unused capacity at our credit facility. Today, we have approximately $17.4 million of cash, $3.7 million of marketable securities, and $279 million of unused capacity under our credit facility. We were also pleased that during the fourth quarter we were able to extend our credit facility by one year to maintain a five year maturity and lower the pricing to LIBOR plus 1.875%. As we look forward to the first quarter of 2016 with more visibility than we typical have, due to the later timing of this year end conference call and consider the impact from the general seasonally lower first quarter originations in the lower middle market, and the impact from two significant lower middle market debt repayments in late fourth quarter and early first quarter, we currently expect that we would generate distributable net investment income of $0.56 to $0.57 per share during the quarter. This estimate is $0.02 to $0.03 per share above our previously announced monthly dividends for the first quarter of $0.54 per share. With that, I will now turn the call back over to the operator, so we can take any questions.

Thank you. [Operator Instructions] Our first question comes from the line of Bryce Rowe with Baird. Please proceed with your question.

Thanks. Good morning.

Good morning

Hey, Vince, just wanted to follow-up on some of the prepared remarks you talked about having a normal pipeline now and that you could potentially continue the strategy you’re seeing in the middle market portfolio shrink like it did in the fourth quarter. So I'm curious kind of how you think about managing capital, managing the balance sheet given the recent weakness in BDC stock prices? And then how it also relates to new potential capacity with the SBA legislation that passed at the end of the year?

Sure. I’ll deal with the last part of the first. I was going to cover the SBA kind of third licensing process, but it gets a little long, so I will see if I can kind of provide executive summary. So, we have begun the process for a third license, normally that start – you start that by filling out a management assessment questionnaire. We did not have to do that this time for various reasons, so we went ahead and provided some preliminary information that should result in a green light letter next month, and that kind of starts a three to six month licensing timeframe. Can be done as quickly as three months if there is no questions, but there is always questions; about your business plan et cetera, et cetera. So, we are looking at probably a six-month timeframe before we get the license. We would intend probably to go ahead whatever they wants us to do and capitalize a new dropdown entity with up to $75 million in equity, so we can access you know to expect in SBA guaranteed debentures work. We got about 225 out now and the limit would be 350, so we couldn’t quite use all the 225, but of all the 150, but it would be close. So, we want to go ahead and get started on then and we have got started on it and we are really happy about the process and the relationship and everything we have with the officials we are working with. And obviously what that does is it has the effect of terming out more of our revolver, right, because as we get financing down there, it’s fixed rate 10-year lower cost financing than. It will free our capacity of the revolver. So, the timing is great for us and we look forward to moving through that process. And in terms of overall balance sheet management in this environment, you know, like I mentioned last quarter, what we intend to do is take both the natural exit proceeds from our middle market portfolio as companies naturally delever repay, get acquired, go public what have you, the average, Nick reserves in here was – the average middle market life historically has only been a couple of years, right.

Somewhere between two and four years, call it three years on average.

We’re always getting proceeds coming in and obviously we can’t really control the targeted proceeds. And what we intend to do is deploy those proceeds and in addition if we have an opportunity to exit a name, add around our cost to a little higher we’ve been inclined to do that too and between those two streams of cash, we should be able to add it or at least fund lower middle market opportunities as they arise, and we want to keep substantial room under our revolver now. I think we got about – about 275 on it?

Yeah, we have about 279 million of unused capacity.

Unused, okay. Yeah. So that is kind of what we intend to do, we don’t want to be in a position where we have to raise equity and prices that we don’t consider attractive. We always kind of take an opportunistic approach there. So that’s kind of what we’re doing, and we feel really good about that, because based on the origination budget, I give the lower middle market teams and the amount of projected middle market activity that we have, we can go probably two or three years by rotating middle market into lower middle market and not have to raise any equity. So we’re not – we like the optionality that we have and that’s kind of what we intend to do. What we don’t intend to do and what we can’t control is a necessarily taking middle market loss with respect to a name that we believe is going to repay just because the loan market is trading it down generally because of mutual fund outflows. We know we are not inclined, we’re disinclined to take a loss to fund a lower middle market investment, we’d rather use the revolver, what potentially the new SBIC license. So, hope that kind of answers your questions, but that’s kind of how we look at capital allocation these days.

That’s helpful. Maybe just one follow-up, Vince. I understand you give your lower middle market teams a budget for the year. I'm curious how you feel about maybe net potential growth in that lower middle market portfolio given some of the discussions you mentioned around potential lower middle market exit and then even with the one that you saw earlier this year.

So we really – we don’t have much choice, but other than to focus on gross originations in the lower middle market and we hope to – hope and expect to originate in the $250 million range in lower middle market on a gross basis in 2015. Some of that because of our exempted relief in our sub advisor relationship HMS will go to HMS. So, if we have gross originations in our balance sheet of a couple of $100 million, that’s $50 million gross for lower middle market teams, that’s very consistent with what they've been able to do in the past and what we expect we’ll do in the future, and they could be selective and take your time underwriting and put their deals on the books. So that’s kind of what we expect to do there. And on the net origination, Bryce, you know like SRV as an example, a guy showed up there on promises offering to buy it. It wasn’t for sale. We weren’t running a process. We’re disinclined to sell it. We told him a number that would interest us in maybe transacting. He met the number and he closed and management wanted to sell. And in those circumstances if management wants to exit and everyone feels like it's a nice valuation, we will exit and we really can't control that. Correct me if I am wrong, Dwayne, but we are not initiating any exit activity or processes – they’re are almost always a result, not always, but almost always a result of a third-party solicitation. Of course sometimes investment banking group coming in with one of our larger lower middle market companies, and say guys, you know, you can get a double-digit multiple for this particular company because it’s in demand by the following strategic and private equity firms or what have you. And if that resonates with our manager, we tend to go along because generally we’re not in control.

That’s accurate. It would be either management or other shareholders or a third-party that’s inquiring about the opportunity, which obviously puts us in a pretty debt position in relation to valuation expectations and then the subsequent negotiations.

That’s great. I’ll jump back in queue and follow-up if I have more questions. Thanks.

Our next question comes from the line of Christopher Nolan with FBR. Please proceed with your question.

Hey Guys. Can you give a little color in terms of how you’re seeing the economy down there developing for your lower middle market companies? I think one of the questions I get from investors talks about how you're turning the lower middle market at such a premium to cost. And for this quarter, we’re seeing an increase divergence between the fair value and the cost. I'm just trying to get some color terms what's driving that and what the overall environment is like down there?

I’ll start. I mean as a technical matter what we are structuring our lower middle market deals, Chris, where we put in, we invest equity and we invest debt, and over time if that debt gets repaid a $1 repaid debt assuming EBITDA stays flat and assuming no multiple expansion if things just kind of stayed flat, every dollar repayment increase is the equity value. So, through delivering over time, we would expect our equity to appreciate and that’s in fact what’s happen when Dwayne mentioned 13 companies that have been in the portfolio for over eight years that generally has – they won’t let delevered by then or brought in the bank or something else – and we expect to get equity appreciation up to the enterprise value that we had transacted over time and we do have a long enough holding period. You're having companies as far back as 2003 that have had 13 years to delever and so if I just mathematically you’re going to get divergence above your cost. And we’re fortunate to have some companies grow their EBITDA or fortunate to have company’s experience multiple expansion of fleet. If we were fortunate to transact it four times, we have to mark that what we think we can sell the companies at. If we were to run a process and sell the company, and so sometimes you’ll have some appreciation with respect to multiple expansion, sometimes growth and EBITDA, and sometimes you know, and almost all of the time through delevering. And sometimes the companies don’t delever because they’re growing rapidly and their incurring CapEx or increasing investments and working capital et cetera or other plan sites or what have you in which case you know you’re generally growing the underlying EBITDA and that causes appreciation too. Do you have anything to that point in terms of that first part of the question in terms of the local economy?

Yeah. The only thing I would add on to that and Southern RV is an example. If you look at how we – the level at which we exited Southern RV, it was a significant premium to our non-30 mark, so we are about $4.4 million. The actual transaction was in excess of our fair value at September 30, and that’s evidence of a company that’s in the geography, you talked about it, it’s in Louisiana and Texas. But if business is benefiting as we’ve talked about in the past from lower oil and gas commodity prices that complemented by a third-party that approaches the company and really found that as an attractive, you know yielded a result from an actual transaction that was well in excess of how we had a value just four months prior to that. So I think that’s evidence of some of the things we talked about how we approach these companies from a valuation standpoint, but also how an actual exit transaction can compare when you find a buyer out there that finds the asset or the company really attractive.

Thank you. As a follow-up, I know Brent mentioned that year-over-year dividend income increased by $0.1 million. In the press release, there is a reference to a decrease of dividend income of $0.7 million. Was there a decrease in dividend income in the quarter?

No, that reference in the press release is just to what we would consider kind of the less recurring dividend income. So in total, the difference was $0.1 million, but in the fourth quarter of 2014, we had approximately $700,000 what we kind of characterize as a little bit unusual or nonrecurring and that did not reoccur in the fourth quarter of 2015, so that’s how the press release was explaining there.

Okay. So given the growth in the portfolio and you are seeing $0.1 million increase in dividend, are you seeing less dividend payouts from your lower middle market company?

No. I think we’ll continue to see it growing. In fact back to your original point in the question, if you looked at our normalize basis if you will, it was really up by $600,000, because again the fourth quarter kind of have that unusual $700,000 dividend. So, no, we are actually seeing the dividend income continue to be strong and grow as the portfolio of the companies mature.

Chris, so I’ve mentioned this on prior calls too, when you are investing primarily, although not exclusively, but primarily into LLC structures, when the companies have free cash flow, so generally delever as opposed to pay a dividend, but they need to pay a dividend equal to roughly 40% of the tax flow income, so that the limit of LLC members can cover their tax liabilities on the income they get from the LLC. So, that’s a lot of the dividend income that we get, so it’s really a function of the taxable income of the entity, and if they buy a piece of equipment they can expense from tax purposes. So, taxable incomes, you know book income is hard enough to forecast, taxable income is even harder to forecast and that’s the bulk of the income – of the dividend income that we see and we expect to continue to see now. If we go through a cycle where we are investing in a lot of sea crops, it will absolutely go down because you lose the tax component of the dividend income stream.

Okay. Thank you for the clarification. Thanks for taking my questions.

Our next question comes from the line of Robert Dodd with Raymond James. Please proceed with your question.

Hi guys. Just going back to the SBA for a second, has there been a conscious decision by your – to apply to the third license and put all of the incremental leverage in that, because obviously is there a functional fund lives or what was the decision versus putting a bit more money into SBIC 2, which obviously could…

That’s a great question, Robert. What’s happening as a policy matter is, at least as its been communicated to us by our contacts is there is yet to be a decision made with respect to a group like us whose two current licenses which is as a path matter, you know what you need to excess the full family funds limit, the old one at 225. When you have two licenses, and one is a 2002 vintage and the other is a 2006 vintage, your most recent license is 10 years old. Typically, when you are applying for a license, you give them a 10-year financial model and a 10-year business plan. And to go back now and said, oh, by the way, I want additional leverage for my 10-year old fund for getting about the 14-year old fund. It raises a policy question for them that they need to resolve because it came about as a result of the legislation. So, they see kind of the unfairness with respect to a group that’s younger than us. Why should a group with a 2008 and 2012 pair of licenses in terms of vintage years be able to get the additional leverage now where someone like us can’t because we’ve been in the program longer. So, I don’t think they want to panelize older group, they have to come up with a policy decision. Are they going to retroactively allow you to extent your business plan because of this kind of unforeseen legislation or certainly unforeseen at the time you filed your business plan in 2006. And what they told us specifically Robert was, we’re not saying you can’t, but if you ask the question now, can I get more leverage on your second fund before we resolve the policy issue, we might not have any question, but to say no to you and you’re better off not having us officially said no. You better up either waiting or going to work under third license, which you're eventually going to need anyway. So that’s our best understanding of what’s happening and we expect it to be resolved and if gets resolved favorably, since we haven’t officially asked it, we’ll go ask, and we’ll accelerate the process and give some more leverage on our second fund.

Perfect, really helpful. Moving on the equity values, you’ve pointed out a couple of quarters now that some segments of your lower and middle market portfolio, the multiples are quite high, I mean obviously with Southern RV for example, and the offers are coming in. How are you seeing given in the last few months in the equity markets, obviously the public equity markets? But are you seeing any cracks in that and any beginning of maybe backing away from multiples that were being hinted at in some occasions or anything like that. Is there any stratification by industry in terms of where multiples are staying high versus starting to slip, any color there?

Yeah. No, I think what’s definitely happening is when there is more challenging credit environment, private equity, you know buyout firms that utilize, you know utilize leverage as part of their fundamental business plan are either going to have to look for alternative sources of credit or bring the valuations down. What we’re seeing now – what we’re being told now is very interesting that probably would not have been the case three or six months ago is with respect to this company that we’re looking at and we really like by buy it and we’re going to give you a really nice multiple for it that hasn’t come down. We’d really like you to help finance that. In other words, provide a staple or something like that and that is something that is a relatively new phenomenon. At the same time, we’re having household named private equity funds, call us to join their bank group, their first lean bank group, which historically we haven’t done because yields haven’t been that attractive. But when they’re reaching out to BDC's to do kind of the term A, well there is a revolver maybe it’s technically, it’s a term B. But when the private equity funds are reaching out for us to join what was typically a bank, there are not huge funds, these are mid-size funds, that’s something that we haven’t really experiencing, not in recent memory and we have to go all the way back to 2009. So yeah, I think credit is becoming more challenging and getting more expensive and that has ultimately precipitated lower multiples. We haven’t seen it yet, but I will expect it.

Trying to make you answer the half part of the question. When these multiple cycles get up and they tend to be settled, how long is the and obviously it changes by industry group et cetera, et cetera, and one might come when the other one is coming down, but how long is kind of an average period for one of these high multiple cycles within a given industry?

Again, so I'm just focused on the LBO firms. The strategics that aren’t necessarily using leverage, you know I think what’s going to happen is either strategics going to displaced the financial buyers when leverage gets tight. They really have – not only competitive advantage of being a strategic buyer with synergies, but they don’t have as much an issue with leverage with our sized companies, right. Where a $5 million EBITDA might, $10 million EBITDA that might attract the 10 times multiple by talking of the higher end to $100 million strategic and drive them, check no problem and what we just discussed has don’t even impact them. So that would be – that’s probably who you would be marketing to – if you insisted on getting that same high valuation, but obviously things are going to get less competitive when the financials aren’t competing with the strategics, that’s how you get your highest valuation. Dwayne, would you? You’re in the middle of couple of these now, would you?

I think you covered it – covered it well, and kind of an overall economy and industry standpoint, I do think that there still are several pockets of industries that are still very, very high and you continue to see high valuations there and instances where we’ve seen those firms looking at LBO's, the debt availability or capacity is still very healthy. So I think what you are starting to see more as some of the financing dries up a little bit, as you’re starting to see further bifurcation between the has and have not, as it relates to industries or types of companies, and the related valuations for those different subs-debts.

I appreciate that color. Looking at the dividend income, you mentioned bulk of its basically tax distribution, so I mean if I go – that’s the question is, will you give us a little bit more of the number, I’d say half looking from 2008 to 2009, which now is not yet that – dividend income got caught in half, basically down to minimum distributions, which is the tax distributions and the company seemed, as you indicated back then to hold every other bit of cash that they didn't have to distribute. So I mean is it fair to say that right now, maybe half of or – half two-thirds, three quarters of those dividends are kind of the minimum distributions versus – we see some room where they could pull back if they get more stressed about the economic environment?

Yeah. I would say that it’s approximately half and we haven’t really run that math, but there are companies that do better and generate significant cash and their distributions would not be limited to solely the cash distributions, but there is a healthy part of that dividend income that is purely as Vince said, contractual cash distribution related activity as opposed to something that’s kind of access distribution.

For example the 13 companies Dwayne referenced that have been in the portfolio for eight years, it’s fair to assume dividends coming from them, have a fair amount of non-tax because they’ve de-levered. And they’ve taken the free cash flow and if I think about it we haven’t really had the question, but our biggest dividend payers are the companies that have long ago delevered and are distributing their free cash flow. They tend not to be acquisitive for whatever reason and those are the biggest dividend payers, but – and virtually all that – the younger vintages are companies the dividends are tax related, but they still have their debt.

And I think it’s important to note that those companies largely have either very limited debt or – several situations no debt. So what we do and that’s one of the highlights that I tried to plot earlier, with our permanent holding period in these companies, what happens over time as we convert from interest income on our debt to dividend income through our meaningful equity participation as they delever, because the cash flow is still there, so it’s going to come out to the participants in the capital structure in form or the other. Initially for us interest income and to a lesser extent dividend income and then over the life of the investment as it matures and delevers that interest income is converted into dividend income.

Got it, got it. One final one if I can. Not – talking about the south, I mean just overall economy wise, and obviously you’ve got companies operating all over the country. Are you seeing any areas at all of weakness and that’s relative whether it’s coming into slightly below what they were expecting before. Is there any kind of geographic region where that’s more of an issue or industry sector, where other than oil obviously?

The companies that have been most impacted are those that are having kind of unforeseen difficulties due to the strong dollar. And these are not multinational companies, but all of a sudden their domestic competitors have been supplemented with foreign competitors that they haven’t had in 10 years. And for some of the work they've been doing in Canada, you don’t consider them really a multinational, some of the work they’re doing in Canada, your cost of goods sold are dollar denominated, your revenues are Canadian dollar denominated, and huge impact to some of these companies that’s really dollar driven, we haven’t experienced before, I doubt that they have either, so that’s tended to be the most pronounced area rather than geographic or industries per se. It’s running through the impact of the strengthened dollar and how quickly it happened and what they think they can do to adjust.

Very helpful. Thanks a lot guys.

[Operator Instructions] Our next question comes from the line of Vernon Plack with BB&T. Please proceed with your question.

Thanks very much. And what’s the spillover income, did you give an estimate of that? Or could you give an estimate of that?

What is it Brent?

It’s approximately $39 million at the end of the fourth quarter.

Vernon, one of the issues about using LLC investment, they have a lot of positives, but one negative is you generally have to hold them in blockers and SRV was held in a block so if gain down in the blocker and didn’t increase our spillover, unless and until maybe we paid dividend out of the blocker et cetera. So the spillover has – is probably going down a little bit since the last time we talked about it, but it’s in that $40 million range. So there's probably visibility a 3 to 4, 2 years roughly 2 years of supplemental dividends in the amount that we now.

And Brent you said distributable net investment income of $0.56 to $0.57 your thoughts in terms of Q1?

That’s correct.

Okay. Alright. Thank you very much.

Thanks a lot Vernon.

Our next question comes from the line of Douglas Mewhirter with SunTrust. Please proceed with your question.

Hi good morning, I dismissed my question with answers, I just have one follow up. You had unfortunate restructuring in one of your private market deals, and I'm sure the market in general is in a little bit of turmoil, have you may be adjusted your or have your changed your appetite for those private market deals or maybe adjusted how you structure them or anything related to that either your specific experience or related to what’s going on in the market now? And maybe very close related follow-up. I know the middle market is sort of a facility where you kind of park your money to generate sustainable dividends, but I'm sure the market close come way down and I don’t know if there's any [indiscernible] to actually getting ironically a little more aggressive there because of where the quotations have gone?

That’s a great question. In terms of the lessons learned, and let me try to answer that, because if I didn’t learn the lesson, we have the – the comp is too much, but I think the experience we had in some of what we call the private loans club type deals that are more attractive in terms of structuring rate in the middle market. They tend not to carry equity because they're in bigger deals and the market just doesn’t – maybe until recently the market doesn’t permit it. The lesson learned primarily as that we’re probably going to be shying away from less enthusiastic – substantially less enthusiastic by non-sponsored deals in the private loan area. Where we’ve had the problems where it was not a unsponsored deal, but it was with legacy founders, shareholders families et cetera, and there wasn’t the institutional support or someone that just written a nice equity check into the capital structure, that’s going to be more inclined to support the company than a non-private equity sponsor deal, so I think that’s the primary lesson learned. Nick, do you have any other lessons learned?

No, there is lot, I think that the main one is what private loans you’re looking at and making sure you do the same level of work on those deals, as you go to lower market deal or…

Say in another way, we would expect the non-sponsored deal to carry significantly better economics then the next part of the question, absolutely when we – we had a lower middle-market, we had a middle-market exit yesterday, $10 million, $12 million something, unforeseen the company I think is got bought or something, company got bought. Absolutely if we don't need that money in the lower middle-market, it’s very tempting to – with some of the names that we like, we've been familiar with and their marked down. We are absolutely reinvesting considering reinvesting some of those proceeds in some of the names we like that are beaten down that we don't think have credit issues and in fact there is a lot of examples of names quoted under par whose credit has been improving. They've been delevering and it just doesn’t make any sense. So we’re inclined to do that, but for example the way I think about it is if we had $12 million come in we might reinvest $8 million and gradually take the portfolio down because we might make as much as $8 million that we did on the $12 million that came in. So, that’s kind of been our attitude as opposed to taking the $12 million and reinvesting maybe the whole thing.

Okay. Thanks. That’s all my questions.

Our next question comes from the line of Mickey Schleien with Ladenburg Thalmann. Please proceed with your question.

Good morning gentlemen. Actually I want to follow up on what you just said about some of these marks not making sense, and I agree, I've been struggling, trying to understand what the markets are telling us because we’re seeing this dramatic weakness in the more liquid credit markets and in the equity markets, but companies like yours and your competitors generally are saying that borrowers are doing relatively well and very big picture, if we think about it notwithstanding the impact on your neck of the woods, the decline in the price of oil is a net positive for the US economy and a slowdown in China, in of itself doesn’t seem to – wouldn’t seem to have a meaningful impact on US companies that you lend to. So I'd like your thoughts on where we are in the credit cycle and you know are the markets telling us something that we don't know or is this just you know a very appealing opportunity?

Well Mickey, I think the biggest impact that we can figure out is, we get a report, you might as well, we get a report every day from STs, LCD service loan commentary and data service about the estimates from other sources mutual loan, mutual fund outflows, these are open end funds where you can redeem every day at NAV and they've been running about $150 million a day every day, almost every day probably for 190 out of the last 200 days, it's a phenomenal exit. Still those loan fund managers as I understand it don't hold the bunch of gas for redemptions, so they got to sell liquid names to raise the cash to fund reductions, kind of reminiscent of the credit crisis with hedge fund redemptions are et cetera. And then at the same time you might have some CLO's if you have pressure, having to shell certain names based upon ratings actions or something like that. And so if they all tend to be selling at the same time and they’re aren’t – that’s the technical supply demand, and I think that what's causing the marks there isn’t any buyers when they’re next sellers to raise funds to redeem in the – I think ultimately that provides more and more opportunity. The more interesting question to me is where the retail investment – I mean what advice they’re getting to sell floating rate senior secured loans and by high yield, that’s fixed rate in an generally increasing rate environment people think. I mean, I don’t understand the advice, but they’re doing it, and they've been doing it consistently and that capital is going elsewhere, sitting on the side lines or something, that’s what’s driving down the marks, rather than kind of credit specific issues. And that’s why you’re getting the inconsistency among the fundamental credit metrics of the companies versus what the loan market is, the mark to market is telling you.

Appreciate that Vince. Just a couple of more straightforward questions. Can you give us your view on the Department of Labor decisions regarding fiduciaries and its impact on the growth at Hines and all – my last question is given the valuation of Main Street relative to the group, can you talk about your appetite for potentially using your stock as a currency to go out and perhaps buy a portfolio of loans that are probably, based on what we just talked about, pretty decent portfolio, but the valuations don't reflect that?

Sure. The first question part of the question was about labor. Absolutely, so I had to learn about this, the hardware, when I was testifying for the industry for the SBIA at the house committee that deals with the BDC, we thought we’re trying the BDC legislation, I’m getting questions from the members, and I had talked to some of our brokerage firms like yours about the impact of this – on our shareholders, are we likely held by 401(k) and IRAs et cetera and we’re not to any material degree. And so it created impact the publics and I was kind of enquiring about that six, nine months ago, but as part of it too, I learned a lot more about the typical shareholder of a nontraded BDC on the retail side, 10s in facts to be with some kind of a qualified retirement plan. This will absolutely impact them if these – the labor department regulations or rules come out and prohibit a commission product being sold to a retirement plan by someone that ends up having to act as a fiduciary. It’s that provision which I think it has been for both of that stage and doesn't get modified or some kind of a sunset provision or what have you that will absolutely impact that non-listed industry be it REITs, BDCs or anything else that’s in that industry, they're very concerned about that, and a lot of things going on. I think there is even some bill in the house introduced, if not passed to try to prevent that rule from becoming – from going, in fact, so yes it's very problematic to the non-listed industry. As I understand it.

Our next question comes from the line of Christopher Testa from National Securities Corporation. Please proceed with your question.

Hi, good morning, thank you for taking my questions. Just with the fee income this quarter, how much of that was related to the prepayment?

That was – that was approximately $1.2 million of our investment. Brent, is that right?

It’s right. That’s our total investment income, kind of accelerated prepayment, so some of that, a little bit of that is interest, some of its fees, but that’s the general number for the total, it’s not that huge, all activities, across portfolio.

And I think, I missed this at the beginning of the call, how much of the unrealized marks were from technical depreciation from spreads widening?

We’re estimating at least 40%, and if you think about it if it's a credit-related issue where the loan should be quoted at 80, and you’re in a normal market it’s probably quoted at 60, so even half of that is probably technical if you follow me. So our 40% number doesn’t even really consider that. So that’s why I said at least 40%.

Okay, and the ones the roughly 60% that’s non-technically, is that primarily being impacted on the middle-market loans?

No, that would be companies that have deteriorating credit metrics. Their EBITDA is declining.

I understand, I meant, is most of that where you’re seeing the negative EBITDA trends, is that in the middle market, the lower middle market, where are you seeing the majority of that coming from?

It was almost all middle market.

All middle market. Okay. And just Vince, you had mentioned you are seeing better structures with the investments, so if you could just give us some color on what exactly you’re seeing, whether investments if you could just give some color on what exactly are seeing you know whether it's – they want lower attachment point leverage, maybe look at more covenants and cash flow suites, just any color there would be appreciated.

Well, I mean generally we’re looking at, we’re being able to charge a higher rate and also we’re able to put less leverage on the company. So we’re loaning, not as far into the enterprise value and receiving compensation for that exposure that’s increasing. I mean it’s really, it’s the best to both worlds. And that‘s generally been the case with the real small companies, it’s now the case with even the larger companies. In our pipeline, we have recently large companies for us where we’re – the price talked is up 100, 200 basis points or higher from what it might have been 6 or 9 months ago and the leverage is maybe it turned less Dwayne.

That’s right.

It’s a great environment to have permanent capital. That’s the problem with the industry, you know, what’s bad for your balance sheet is good for your income statement vice versa, so.

Thank you. Ladies and gentlemen, we have reached the end of the question and answer session. I’d now like to turn the floor back over to management for closing remarks.

Again, thank you for joining us today. And we’ll see you again in a couple of months. Bye.