Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

 

FORM 10-K

 

 

(Mark One)

ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended March 31, 2021

OR

 

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from                      to                    

Commission file number 814-00704

 

 

GLADSTONE INVESTMENT CORPORATION

(Exact name of registrant as specified in its charter)

 

 

 

Delaware   83-0423116
(State or other jurisdiction of
incorporation or organization)
  (I.R.S. Employer
Identification No.)
1521 Westbranch Drive, Suite 100
McLean, Virginia
  22102
(Address of principal executive offices)   (Zip Code)

(703) 287-5800

(Registrant’s telephone number, including area code)

Securities registered pursuant to Section 12(b) of the Act:

 

Title of Each Class

 

Trading Symbol(s)

 

Name of Each Exchange on Which  Registered

Common Stock, $0.001 par value per share   GAIN   The Nasdaq Stock Market LLC

6.375% Series E Cumulative Term Preferred

Stock, $0.001 par value per share

  GAINL   The Nasdaq Stock Market LLC
5.00% Notes due 2026, $25.00 par value per note   GAINN   The Nasdaq Stock Market LLC

Securities registered pursuant to Section 12(g) of the Act: None

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.    YES  ☐    NO  ☒

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.    YES  ☐    NO  ☒

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    YES  ☒    NO  ☐

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).    YES  ☐    NO  ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer      Accelerated filer  
Non-accelerated filer      Smaller reporting company  
Emerging growth company       

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.  ☐

Indicate by check mark whether the registrant has filed a report on and attestation to its management’s assessment of the effectiveness of its internal control over financial reporting under Section 404(b) of the Sarbanes-Oxley Act (15 U.S.C. 7262(b)) by the registered public accounting firm that prepared or issued its audit report.  ☐

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).    YES  ☐    NO  ☒

The aggregate market value of the voting stock held by non-affiliates of the Registrant on September 30, 2020, based on the closing price on that date of $9.10 on the Nasdaq Global Select Market, was $294,365,821. For the purposes of calculating this amount only, all directors and executive officers of the Registrant have been treated as affiliates. There were 33,205,023 shares of the Registrant’s Common Stock, $0.001 par value, outstanding as of May 10, 2021.

Documents Incorporated by Reference. Portions of the Registrant’s definitive proxy statement relating to the Registrant’s 2021 Annual Meeting of Stockholders to be filed with the Securities and Exchange Commission pursuant to Regulation 14A are incorporated by reference into Part III of this Annual Report on Form 10-K as indicated herein. Such proxy statement will be filed with the Securities and Exchange Commission no later than 120 days following the end of the Registrant’s fiscal year ended March 31, 2021.

 

 

 


Table of Contents

GLADSTONE INVESTMENT CORPORATION

FORM 10-K FOR THE FISCAL YEAR ENDED

MARCH  31, 2021

TABLE OF CONTENTS

 

PART I    ITEM 1   

Business

     2  
   ITEM 1A   

Risk Factors

     22  
   ITEM 1B   

Unresolved Staff Comments

     49  
   ITEM 2   

Properties

     49  
   ITEM 3   

Legal Proceedings

     49  
   ITEM 4   

Mine Safety Disclosures

     49  
PART II    ITEM 5   

Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

     50  
   ITEM 6   

Reserved

  
   ITEM 7   

Management’s Discussion and Analysis of Financial Condition and Results of Operations

     60  
   ITEM 7A   

Quantitative and Qualitative Disclosures About Market Risk

     79  
   ITEM 8   

Financial Statements and Supplementary Data

     81  
   ITEM 9   

Changes in and Disagreements With Accountants on Accounting and Financial Disclosure

     141  
   ITEM 9A   

Controls and Procedures

     141  
   ITEM 9B   

Other Information

     141  
PART III    ITEM 10   

Directors, Executive Officers and Corporate Governance

     142  
   ITEM 11   

Executive Compensation

     142  
   ITEM 12   

Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

     142  
   ITEM 13   

Certain Relationships and Related Transactions, and Director Independence

     142  
   ITEM 14   

Principal Accountant Fees and Services

     142  
PART IV    ITEM 15   

Exhibits and Financial Statement Schedules

     143  
   ITEM 16   

Form 10-K Summary

     146  
SIGNATURES      147  


Table of Contents

FORWARD-LOOKING STATEMENTS

All statements contained herein, other than historical facts, may constitute “forward-looking statements.” These statements may relate to, among other things, our future operating results, our business prospects and the prospects of our portfolio companies, actual and potential conflicts of interest with Gladstone Management Corporation (the “Adviser”) and its affiliates, the use of borrowed money to finance our investments, the adequacy of our financing sources and working capital, and our ability to co-invest, among other factors. In some cases, you can identify forward-looking statements by terminology such as “estimate,” “may,” “might,” “believe,” “will,” “provided,” “anticipate,” “future,” “could,” “growth,” “plan,” “project,” “intend,” “expect,” “should,” “would,” “if,” “seek,” “possible,” “potential,” “likely” or the negative or variations of such terms or comparable terminology. These forward-looking statements involve known and unknown risks, uncertainties and other factors that may cause our actual results, levels of activity, performance or achievements to be materially different from any future results, levels of activity, performance or achievements expressed or implied by such forward-looking statements. Such factors include: (1) changes in the economy and the capital markets; (2) risks associated with negotiation and consummation of pending and future transactions; (3) the loss of one or more of our executive officers, in particular David Gladstone, David Dullum, or Terry Lee Brubaker; (4) changes in our investment objectives and strategy; (5) availability, terms (including the possibility of interest rate volatility) and deployment of capital; (6) changes in our industry, interest rates, exchange rates, regulation, or the general economy; (7) our business prospects and the prospects of our portfolio companies; (8) the degree and nature of our competition; (9) changes in governmental regulation, tax rates and similar matters; (10) our ability to exit investments in a timely manner; (11) our ability to maintain our qualification as a regulated investment company (“RIC”) and as a business development company (“BDC”); (12) those factors described in Item 1A. “Risk Factors” of this Annual Report on Form 10-K (this “Annual Report”); and (13) the impact of COVID-19 generally and on the economy, the capital markets and our portfolio companies, including the measures taken by governmental authorities to address it, which may precipitate or exacerbate other risks and/or uncertainties, including those listed above. Additionally, many of the risks, uncertainties and other factors listed above, among others, are currently elevated by and may or will continue to be elevated by the COVID-19 pandemic. We caution readers not to place undue reliance on any such forward-looking statements, which speak only as of the date made. Actual results could differ materially from those anticipated in our forward-looking statements and future results could differ materially from our historical performance. Except as required by the federal securities laws, we undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise, after the date of this Annual Report on Form 10-K. Although we undertake no obligation to revise or update any forward-looking statements, whether as a result of new information, future events, or otherwise, you are advised to consult any additional disclosures that we may make directly to you or through reports that we have filed, or in the future may file, with the U.S. Securities and Exchange Commission (the “SEC”), including subsequent annual reports on Form 10-K, quarterly reports on Form 10-Q and current reports on Form 8-K.

In this Annual Report, the terms the “Company,” “we,” “us,” and “our” refer to Gladstone Investment Corporation and its wholly-owned subsidiaries unless the context otherwise indicates. Dollar amounts, except per share amounts, are in thousands unless otherwise indicated.

PART I

The information contained in this section should be read in conjunction with our accompanying Consolidated Financial Statements and the notes thereto appearing elsewhere in this Annual Report.

 

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ITEM 1.

BUSINESS

Overview

Organization

We were incorporated under the General Corporation Law of the State of Delaware on February 18, 2005. On June 22, 2005, we completed our initial public offering and commenced operations. We operate as an externally managed, closed-end, non-diversified management investment company and have elected to be treated as a BDC under the Investment Company Act of 1940, as amended (the “1940 Act”). For U.S. federal income tax purposes, we have elected to be treated as a RIC under Subchapter M of the Internal Revenue Code of 1986, as amended (the “Code”). To continue to qualify as a RIC for U.S. federal income tax purposes and obtain favorable RIC tax treatment, we must meet certain requirements, including certain minimum distribution requirements.

Shares of our common stock, 6.375% Series E Cumulative Term Preferred Stock (“Series E Term Preferred Stock”), and our 5.00% Notes due 2026 (“2026 Notes”) are traded on the Nasdaq Global Select Market (“Nasdaq”) under the trading symbols “GAIN,” “GAINL,” and “GAINN,” respectively.

Investment Adviser and Administrator

We are externally managed by the Adviser, an affiliate of ours and an SEC registered investment adviser, pursuant to an investment advisory and management agreement (the “Advisory Agreement”). We have also entered into an administration agreement (the “Administration Agreement”) with Gladstone Administration, LLC (the “Administrator”), an affiliate of ours and the Adviser. Each of the Adviser and the Administrator are privately-held companies that are indirectly owned and controlled by David Gladstone, our chairman and chief executive officer. David Dullum, our president, also serves as the executive vice president of private equity (buyouts) of the Adviser. Michael LiCalsi, our general counsel and secretary, also serves as the Administrator’s president, general counsel, and secretary, as well as the executive vice president of administration of the Adviser. Mr. Gladstone and Terry Lee Brubaker, our vice chairman and chief operating officer, also serve on the board of directors of the Adviser, the board of managers of the Administrator, and as executive officers of the Adviser and the Administrator. The Administrator employs, among others, our chief financial officer and treasurer, chief valuation officer, chief compliance officer, general counsel and secretary and their respective staffs. The Adviser and Administrator have extensive experience in our lines of business and also provide investment advisory and administrative services, respectively, to our affiliates, including: Gladstone Commercial Corporation (“Gladstone Commercial”), a publicly-traded real estate investment trust; Gladstone Capital Corporation (“Gladstone Capital”), a publicly-traded BDC and RIC; and Gladstone Land Corporation, a publicly-traded real estate investment trust (together with “Gladstone Commercial” and “Gladstone Capital,” collectively the “Affiliated Public Funds”). In the future, the Adviser and Administrator may provide investment advisory and administrative services, respectively, to other funds and companies, both public and private.

The Adviser was organized as a corporation under the laws of the State of Delaware on July 2, 2002 and is a registered investment adviser under the Investment Advisers Act of 1940, as amended. The Administrator was organized as a limited liability company under the laws of the State of Delaware on March 18, 2005. The Adviser and Administrator are headquartered in McLean, Virginia, a suburb of Washington, D.C. The Adviser also has offices in several other states.

Investment Objectives and Strategy

We were established for the purpose of investing in debt and equity securities of established private businesses operating in the U.S. Our investment objectives are to: (i) achieve and grow current income by investing in debt securities of established businesses that we believe will provide stable earnings and cash flow to pay expenses, make principal and interest payments on our outstanding indebtedness and make distributions to stockholders that grow over time; and (ii) provide our stockholders with long-term capital appreciation in the value of our

 

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assets by investing in equity securities of established businesses, generally in combination with the aforementioned debt securities, that we believe can grow over time to permit us to sell our equity investments for capital gains. To achieve our investment objectives, our investment strategy is to invest in several categories of debt and equity securities, with individual investments in a particular portfolio company generally totaling up to $40 million, although investment size may vary, depending upon our total assets or available capital at the time of investment. We expect that our investment portfolio over time will consist of approximately 75% in debt securities and 25% in equity securities, at cost. As of March 31, 2021, our investment portfolio was comprised of 74.4% in debt securities and 25.6% in equity securities, at cost.

We focus on investing in lower middle market private businesses (which we generally define as private companies with annual earnings before interest, taxes, depreciation and amortization (“EBITDA”) of $3 million to $20 million) (“Lower Middle Market”) in the U.S. that meet certain criteria, including, the following: the sustainability of the business’ free cash flow and its ability to grow it over time, adequate assets for loan collateral, experienced management teams with a significant ownership interest in the portfolio company, reasonable capitalization of the portfolio company, including an ample equity contribution or cushion based on prevailing enterprise valuation multiples, and the potential to realize appreciation and gain liquidity in our equity position, if any. We anticipate that liquidity in our equity position will be achieved through a merger, acquisition, or recapitalization of the portfolio company, a public offering of the portfolio company’s stock or, to a lesser extent, by exercising our right to require the portfolio company to repurchase our warrants, as applicable, though there can be no assurance that we will always have these rights. We invest in portfolio companies that need funds for growth capital, to finance acquisitions, including management buyouts, recapitalize or, to a lesser extent, refinance their existing debt facilities. We seek to avoid investing in high-risk, early-stage enterprises.

We invest by ourselves or jointly with other funds and/or management of the portfolio company, depending on the opportunity. In July 2012, the SEC granted us an exemptive order (the “Co-Investment Order”) that expanded our ability to co-invest, under certain circumstances, with certain of our affiliates, including Gladstone Capital and any future BDC or closed-end management investment company that is advised (or sub-advised if it controls the fund) by the Adviser, or any combination of the foregoing, subject to the conditions in the Co-Investment Order. Since 2012, we have opportunistically made several co-investments with Gladstone Capital pursuant to the Co-Investment Order. We believe the Co-Investment Order has enhanced and will continue to enhance our ability to further our investment objectives and strategies. If we are participating in an investment with one or more co-investors, whether or not an affiliate of ours, our investment is likely to be smaller than if we were investing alone.

In general, our investments in debt securities have a term of five years, accrue interest at variable rates (based on the one-month London Interbank Offered Rate (“LIBOR”)) and, to a lesser extent, at fixed rates. As of March 31, 2021, our loan portfolio consisted of 97.7% variable rate loans with floors and 2.3% fixed rate loans, based on the total principal balance of all outstanding debt investments. We seek debt instruments that pay interest monthly or, at a minimum, quarterly, and which may include a yield enhancement such as a success fee or, to a lesser extent, deferred interest provision and are primarily interest only, with all principal and any accrued but unpaid interest due at maturity. Generally, success fees accrue at a set rate and are contractually due upon a change of control of the portfolio company. Some debt securities may have deferred interest whereby some portion of the interest payment is added to the principal balance so that the interest is paid, together with the principal, at maturity. This form of deferred interest is often called “paid-in-kind” (“PIK”) interest. As of March 31, 2021, we did not have any securities with a PIK feature.

Typically, our investments in equity securities take the form of common stock, preferred stock, limited liability company interests, or warrants or options to purchase any of the foregoing. Often, these equity investments occur in connection with our original investment, buyouts and recapitalizations of a business, or refinancing existing debt. From our initial public offering in 2005 through March 31, 2021, we invested in 53 companies, excluding investments in syndicated loans.

 

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We expect that our investment portfolio will continue to primarily include the following three categories of investments in private companies in the U.S.:

 

 

Secured First Lien Debt Securities: We seek to invest a portion of our assets in first lien secured debt securities also known as senior loans, senior term loans, lines of credit and senior notes. Using its assets as collateral, the borrower typically uses first lien secured debt to cover a substantial portion of the funding needs of the business. These debt securities usually take the form of first priority liens on all, or substantially all, of the assets of the business.

 

 

Secured Second Lien Debt Securities: We seek to invest a portion of our assets in second lien secured debt securities, which may also be referred to as subordinated loans, subordinated notes and mezzanine loans. These second lien secured debt securities rank junior to the borrower’s first lien secured debt securities and may be secured by second priority liens on all or a portion of the assets of the business. Additionally, we may receive other yield enhancements in addition to or in lieu of success fees, such as warrants to buy common and preferred stock or limited liability interests, in connection with these second lien secured debt securities.

 

 

Preferred and Common Equity/Equivalents: We seek to invest a portion of our assets in equity securities, which consist of preferred and common equity, limited liability company interests, warrants or options to acquire such securities, and are generally in combination with our debt investment in a business. Additionally, we may receive equity investments derived from restructurings on some of our existing debt investments. In many cases, we will own a significant portion of the equity of the businesses in which we invest.

Because the majority of the loans in our portfolio consist of term debt in private companies that typically cannot or will not expend the resources to have their debt securities rated by a credit rating agency, we expect that most, if not all, of the debt securities we acquire will be unrated. Investors should assume that these loans would be rated below what is considered “investment grade” quality. Investments rated below investment grade are often referred to as high yield securities or junk bonds and may be considered higher risk as compared to investment grade debt instruments.

Investment Policies

We seek to achieve a high level of current income and capital gains through investments in secured debt securities and preferred and common stock that we generally acquire in connection with buyouts and other recapitalizations. The following investment policies, along with the investment objectives, may not be changed without the approval of our board of directors (our “Board of Directors”), a majority of whom are not “interested persons” as defined in Section 2(a)(19) of the 1940 Act:

 

   

We will at all times conduct our business so as to retain our status as a BDC. To that status, we must be operated for the purpose of investing in certain categories of qualifying assets. In addition, we may not acquire any assets (other than non-investment assets necessary and appropriate to our operations as a BDC or qualifying assets) if, after giving effect to such acquisition, the value of our “qualifying assets” is less than 70% of the value of our total assets. We anticipate that the securities we seek to acquire will generally be qualifying assets. See “—Regulation as a BDC — Qualifying Assets” for a discussion of the types of qualifying assets in which we are permitted to invest pursuant to Section 55(a) of the 1940 Act.

 

   

We will at all times endeavor to conduct our business so as to retain our status as a RIC under the Code. To do so, we must maintain our status as a BDC and meet income source, asset diversification and annual distribution requirements. We may issue senior securities, such as debt or preferred stock, to the extent permitted by the 1940 Act for the purpose of making investments, to fund share repurchases, or for temporary emergency or other purposes.

With the exception of our policy to conduct our business as a BDC, these investment policies are not fundamental and may be changed without stockholder approval.

 

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Investment Concentrations

As of March 31, 2021, our investment portfolio consisted of investments in 28 portfolio companies located in 17 states across 13 different industries with an aggregate fair value of $633.8 million. Our investments in Pioneer Square Brands, Inc. (“Pioneer Square”), Counsel Press, Inc. (“Counsel Press”), Old World Christmas, Inc. (“Old World”), J.R. Hobbs Co.—Atlanta, LLC (“J.R. Hobbs”), and Bassett Creek Services, Inc. (“Bassett Creek”) represented our five largest portfolio investments at fair value and collectively comprised $233.9 million, or 36.9%, of our total investment portfolio at fair value as of March 31, 2021. The following table summarizes our investments by security type as of March 31, 2021 and 2020:

 

    March 31, 2021     March 31, 2020  
    Cost     Fair Value     Cost     Fair Value  

Secured first lien debt

  $ 379,512       57.2   $ 368,688       58.2   $ 310,019       50.9   $ 308,248       54.5

Secured second lien debt

    114,206       17.2       102,897       16.2       143,155       23.5       123,340       21.8  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total debt

    493,718       74.4       471,585       74.4       453,174       74.4       431,588       76.3  

Preferred equity

    166,361       25.1       159,478       25.2       152,998       25.1       119,849       21.2  

Common equity/equivalents

    3,484       0.5       2,766       0.4       3,410       0.5       14,487       2.5  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total equity/equivalents

    169,845       25.6       162,244       25.6       156,408       25.6       134,336       23.7  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total investments

  $ 663,563       100.0   $ 633,829       100.0   $ 609,582       100.0   $ 565,924       100.0
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Our investments at fair value consisted of the following industry classifications as of March 31, 2021 and 2020:

 

     March 31, 2021     March 31, 2020  
     Fair Value      Percentage
of Total
Investments
    Fair Value      Percentage
of Total
Investments
 

Diversified/Conglomerate Services

   $ 261,714        41.3   $ 226,805        40.1

Home and Office Furnishings, Housewares, and Durable Consumer Products

     94,663        15.0       83,705        14.8  

Personal and Non-Durable Consumer Products (Manufacturing Only)

     60,852        9.6       34,865        6.2  

Leisure, Amusement, Motion Pictures, Entertainment

     45,209        7.1       35,240        6.2  

Healthcare, Education, and Childcare

     31,194        4.9       25,563        4.5  

Aerospace and Defense

     27,630        4.4       26,158        4.6  

Diversified/Conglomerate Manufacturing

     25,181        4.0       28,147        5.0  

Chemicals, Plastics, and Rubber

     22,985        3.6       16,737        3.0  

Telecommunications

     15,582        2.5       15,792        2.8  

Beverage, Food, and Tobacco

     15,519        2.4       12,545        2.2  

Cargo Transport

     15,211        2.4       13,316        2.4  

Machinery (Non-agriculture, Non-construction, and Non-electronic)

     14,199        2.2       23,091        4.1  

Containers, Packaging, and Glass

     —          —         20,360        3.6  

Other < 2.0%

     3,890        0.6       3,600        0.5  
  

 

 

    

 

 

   

 

 

    

 

 

 

Total investments

   $ 633,829        100.0   $ 565,924        100.0
  

 

 

    

 

 

   

 

 

    

 

 

 

 

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Our investments at fair value were included in the following U.S. geographic regions as of March 31, 2021 and 2020:

 

     March 31, 2021     March 31, 2020  

Location

   Fair Value      Percentage
of Total
Investments
    Fair Value      Percentage
of Total
Investments
 

South

   $ 182,529        28.8   $ 182,178        32.2

Northeast

     163,938        25.9       146,434        25.9  

West

     160,581        25.3       90,214        15.9  

Midwest

     126,781        20.0       147,098        26.0  
  

 

 

    

 

 

   

 

 

    

 

 

 

Total investments

   $ 633,829        100.0   $ 565,924        100.0
  

 

 

    

 

 

   

 

 

    

 

 

 

The geographic region indicates the location of the headquarters for our portfolio companies. A portfolio company may have additional business locations in other geographic regions.

Investment Process

Overview of Investment and Approval Process

To originate investments, the Adviser’s investment professionals use an extensive referral network comprised primarily of private equity sponsors, venture capitalists, leveraged buyout funds, investment bankers, attorneys, accountants, commercial bankers and business brokers. The Adviser’s investment professionals review information received from these and other sources in search of potential financing opportunities. If a potential opportunity matches our investment objectives, the investment professionals will seek an initial screening of the opportunity with our president, David Dullum, to authorize the submission of an indication of interest (“IOI”) to the prospective portfolio company. If the prospective portfolio company passes this initial screening and the IOI is accepted by the prospective company, the investment professionals will seek approval to issue a letter of intent (“LOI”) from the Adviser’s investment committee, which is composed of Messrs. Gladstone, Brubaker, and Dullum, to the prospective company. If this LOI is issued, then the Adviser and Gladstone Securities, LLC (“Gladstone Securities”) (collectively, the “Due Diligence Team”) will conduct a due diligence investigation and create a detailed profile summarizing the prospective portfolio company’s historical financial statements, industry, competitive position and management team and analyzing its conformity to our general investment criteria. The investment professionals then present this profile to the Adviser’s investment committee, which must approve each investment.

Prospective Portfolio Company Characteristics

We have identified certain characteristics that we believe are important in identifying and investing in prospective portfolio companies. The criteria listed below provide general guidelines for our investment decisions, although not all of these criteria may be met by each portfolio company.

 

   

Experienced Management: We typically require that the companies in which we invest have experienced management teams or a hiring plan in place to install an experienced management team. We also require the companies to have in place proper incentives to induce management to succeed and act in concert with our interests as an investor, including having significant equity or other interests in the financial performance of their companies.

 

   

Value- and Income-Orientation and Positive Cash Flow: Our investment philosophy places a premium on fundamental analysis from an investor’s perspective and has a distinct value- and income-orientation. In seeking value, we focus on established companies in which we can invest at relatively low multiples of EBITDA, and that have positive operating cash flow at the time of investment. In seeking income, we typically invest in companies that generate relatively stable to growing sales, cash

 

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flows, and EBITDA to fixed charges coverage, which provides some assurance that the companies will be able to service their debt. We do not expect to invest in start-up companies or companies with what we believe to be speculative business plans.

 

   

Strong Competitive Position in an Industry: We seek to invest in companies that have developed strong market positions and significant relative market share within their respective markets and that we believe are well-positioned to capitalize on growth opportunities. We seek companies that demonstrate significant competitive advantages versus their competitors, which we believe will help to protect their market positions and profitability.

 

   

Liquidation Value of Assets: The projected liquidation value of the assets, if any, is an important factor in our investment analysis in collateralizing our debt securities.

Extensive Due Diligence

The Due Diligence Team conducts what we believe are extensive due diligence investigations of our prospective portfolio companies and investment opportunities. The due diligence investigation may begin with a review of publicly available information followed by in-depth business analysis, including some or all of the following:

 

   

A review of the prospective portfolio company’s historical and projected financial information, including a quality of earnings analysis;

 

   

Visits to the prospective portfolio company’s business site(s) and evaluation of potential environmental issues;

 

   

Interviews with the prospective portfolio company’s management, employees, customers and vendors;

 

   

Review of loan documents and material contracts;

 

   

Background checks and a management capabilities assessment on the prospective portfolio company’s management team; and

 

   

Research, including market analyses, on the prospective portfolio company’s products, services or particular industry and its competitive position therein.

Upon completion of a due diligence investigation and a decision to proceed with an investment, the Adviser’s investment professionals who have primary responsibility for the investment present the investment opportunity to the Adviser’s investment committee. The investment committee then determines whether to pursue the potential investment. Prior to the closing of an investment, additional due diligence may be conducted on our behalf by attorneys, independent accountants, and other outside advisers, as appropriate.

We also rely on the long-term relationships that the Adviser’s investment professionals have with leveraged buyout funds, investment bankers, commercial bankers, private equity sponsors, attorneys, accountants, and business brokers. In addition, the extensive direct experiences of our executive officers and managing directors in the operations of Lower Middle Market companies and providing debt and equity capital to Lower Middle Market companies plays a significant role in our investment evaluation and assessment of risk.

Investment Structure

Once the Adviser has determined that an investment meets our standards and investment criteria, the Adviser works with the management of that company and other capital providers to structure the transaction in a way that we believe will provide us with the greatest opportunity to maximize our return on the investment, while providing appropriate incentives to management of the company. As discussed above, the capital classes through which we typically structure a deal include first lien secured debt, second lien secured debt, and preferred and common equity or equivalents. Through its risk management process, the Adviser seeks to limit the downside risk of our investments by:

 

   

Making investments with an expected total return (including interest, yield enhancements and potential equity appreciation) that it believes compensates us for the credit risk of the investment;

 

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Seeking collateral or superior positions in the portfolio company’s capital structure where possible;

 

   

Incorporating put and call protection rights into the investment structure where possible;

 

   

Negotiating covenants in connection with our investments that afford our portfolio companies as much flexibility as possible in managing their businesses, while also preserving our capital; and

 

   

Holding board seats or securing board observation rights at the portfolio company.

We expect to hold most of our debt investments until maturity or repayment. From time to time, we may sell our investments (including our equity investments) earlier if a liquidity event takes place, such as a recapitalization of a portfolio company, an initial public offering, or a sale to a third party, including strategic buyers, private equity funds, or existing investors in the portfolio company, and which may be privately negotiated transactions.

Competitive Advantages

A large number of entities compete with us and make the types of investments that we seek to make in Lower Middle Market companies. Such competitors include private equity funds, leveraged buyout funds, other BDCs, investment banks and other equity and non-equity based investment funds, and other financing sources, including traditional financial services companies such as commercial banks. Many of our competitors are substantially larger than we are and have considerably greater funding sources or are able to access capital more cost effectively. In addition, certain of our competitors may have higher risk tolerances or different risk assessments, which could allow them to consider a wider variety of investments and establish a larger portfolio of investments. Furthermore, many of these competitors are not subject to the regulatory restrictions that the 1940 Act imposes on us as a BDC. However, we believe that we have the following competitive advantages over many other providers of financing to Lower Middle Market companies.

Management Expertise

Our Adviser has a separate investment committee for the Company and each of the Affiliated Public Funds, although Messrs. Gladstone and Brubaker serve as members of the Adviser’s investment committees for each of the Company and each of the Affiliated Public Funds. Messrs. Gladstone and Dullum have extensive experience in investing in Lower Middle Market companies and with operating in the BDC marketplace in general. Mr. Brubaker has substantial experience in acquisitions and operations of companies. These three individuals, who are part of our executive management team and comprise the Adviser’s investment committee for the Company, dedicate a significant portion of their time to managing our investment portfolio. They have extensive experience providing capital to Lower Middle Market companies and have worked together at the Gladstone family of companies for more than ten years. In addition, we have access to the resources and expertise of the Adviser’s investment professionals and support staff who possess a broad range of transactional, financial, managerial, and investment skills. See the additional discussion regarding management of portfolio companies by our Adviser below under “—Ongoing Management of Investments and Portfolio Company Relationships.”

Increased Access to Investment Opportunities Developed Through Extensive Research Capability and Network of Contacts

The Adviser seeks to identify potential investments through active origination and due diligence and through its dialogue with numerous management teams, members of the financial community and potential corporate partners with whom the Adviser’s investment professionals have long-term relationships. We believe that the Adviser’s investment professionals have developed a broad network of contacts within the investment, commercial banking, private equity and investment management communities, and that their reputation, experience, and focus on investing in Lower Middle Market companies enables us to source and identify well-positioned prospective portfolio companies, which provide attractive investment opportunities. Additionally, the Adviser expects to generate information from its professionals’ network of accountants, consultants, lawyers and management teams of portfolio companies and other contacts to support the Adviser’s investment activities.

 

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Disciplined, Value- and Income-Oriented Investment Philosophy with a Focus on Preservation of Capital

In making its investment decisions, the Adviser focuses on the risk and reward profile of each prospective portfolio company, seeking to minimize the risk of capital loss without foregoing the potential for capital appreciation. We expect the Adviser to use the same investment philosophy that its professionals use in the management of the other Affiliated Public Funds and to commit resources to manage downside exposure. The Adviser’s approach seeks to reduce our risk in investments by using some or all of the following approaches:

 

   

Focusing on companies with attractive and sustainable market positions and cash flow;

 

   

Investing in companies with experienced and established management teams;

 

   

Engaging in extensive due diligence from the perspective of a long-term investor;

 

   

Investing at low price-to-cash flow multiples; and

 

   

Adopting flexible transaction structures by drawing on the experience of the investment professionals of the Adviser and its affiliates.

Longer Investment Horizon

Unlike private equity and other funds that are typically organized as finite-life partnerships (generally seven to ten years), we are not subject to standard periodic capital return requirements. These structures often force private equity and other funds to seek returns on their investments by causing their portfolio companies to pursue mergers, public equity offerings, or other liquidity events more quickly than might otherwise be optimal or desirable, potentially resulting in a lower overall return to investors and/or an adverse impact on their portfolio companies. In contrast, we are a corporation of perpetual duration and are exchange-traded. We believe that our flexibility to make investments with a long-term view and without the capital return requirements of traditional private investment vehicles provides us with the opportunity to achieve greater long-term returns on invested capital.

Flexible Transaction Structuring

We believe the Adviser’s and our management team’s broad expertise and years of combined experience enable the Adviser to identify, assess, and structure investments successfully across all levels of a company’s capital structure and manage potential risk and return at all stages of the economic cycle. We are not subject to many of the regulatory limitations that govern traditional lending institutions, such as banks. As a result, we are flexible in selecting and structuring investments, adjusting investment criteria and transaction structures and, in some cases, the types of securities in which we invest, thereby affording us a competitive advantage of providing both, equity and debt financing, which may limit uncertainty related to the close of the transaction and the risk of refinancing during periods of market yield compression. We believe that this approach enables the Adviser to develop a financing structure which best fits the investment and growth profile of the underlying business and yields attractive investment opportunities that will continue to generate current income and capital gain potential throughout the economic cycle, including during turbulent periods in the capital markets, such as the current COVID-19 pandemic.

Ongoing Management of Investments and Portfolio Company Relationships

The Adviser’s investment professionals actively oversee each investment by continuously evaluating the portfolio company’s performance and typically working collaboratively with the portfolio company’s management to identify and incorporate best resources and practices that help us achieve our projected investment performance.

 

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Monitoring

The Adviser’s investment professionals monitor the financial performance, trends, and changing risks of each portfolio company on an ongoing basis to determine if each portfolio company is performing within expectations and to guide the portfolio company’s management in taking the appropriate courses of action. The Adviser employs various methods of evaluating and monitoring the performance of our investments in portfolio companies, which can include the following:

 

   

Monthly analysis of financial and operating performance;

 

   

Frequent assessment of the portfolio company’s performance against its business plan and our investment expectations;

 

   

Attendance at and/or participation in the portfolio company’s board of directors or management meetings;

 

   

Continuous assessment of portfolio company management, governance and strategic direction;

 

   

Continuous assessment of the portfolio company’s industry and competitive environment; and

 

   

Frequent review and assessment of the portfolio company’s operating outlook and financial projections.

Relationship Management

The Adviser’s investment professionals interact with various parties involved with a portfolio company, or investment, by actively engaging with internal and external constituents, including:

 

   

Management;

 

   

Boards of directors;

 

   

Financial sponsors;

 

   

Capital partners;

 

   

Auditors; and

 

   

Advisers and consultants.

Managerial Assistance and Services

As a BDC, we make available significant managerial assistance, as defined in the 1940 Act, to our portfolio companies and provide other services (other than such managerial assistance) to such portfolio companies. Neither we, nor the Adviser, currently receive fees in connection with the managerial assistance we make available. At times, the Adviser may also provide other services to our portfolio companies under certain agreements and may receive fees for services other than managerial assistance. Such services may include: (i) assistance obtaining, sourcing or structuring credit facilities, long term loans or additional equity from unaffiliated third parties; (ii) negotiating important contractual financial relationships; (iii) consulting services regarding restructuring of the portfolio company and financial modeling as it relates to raising additional debt and equity capital from unaffiliated third parties; and (iv) a primary role in interviewing, vetting and negotiating employment contracts with candidates in connection with adding and retaining key portfolio company management team members. The Adviser non-contractually, unconditionally, and irrevocably credits 100% of any fees received for such services against the base management fee that we would otherwise be required to pay to the Adviser, as discussed below in “—Transactions with Related Parties – Investment Advisory and Management Agreement – Base Management Fee;” however, pursuant to the terms of the Advisory Agreement, a small percentage of certain of such fees is retained by the Adviser in the form of reimbursement, at cost, for tasks completed by personnel of the Adviser, primarily related to the valuation of portfolio companies.

 

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Gladstone Securities also provides other services (such as investment banking and due diligence services) to certain of our portfolio companies and receives fees for the provision of such services, see “—Transactions with Related Parties – Other Transactions” below.

Valuation Process

The following is a general description of our investment valuation policy (the “Policy”) (which has been approved by our Board of Directors) that the professionals of the Adviser and Administrator, with oversight and direction from our chief valuation officer, an employee of the Administrator that reports directly to our Board of Directors (collectively, the “Valuation Team”), use each quarter to determine the fair value of our investment portfolio. In accordance with the 1940 Act, our Board of Directors has the ultimate responsibility for reviewing and determining, in good faith, the fair value of our investments for which market quotations are not readily available based on the Policy. The Adviser values our investments in accordance with the requirements of the 1940 Act and accounting principles generally accepted in the U.S. (“GAAP”). There is no single standard for determining fair value (especially for privately-held businesses), as fair value depends upon the specific facts and circumstances of each individual investment. Each quarter, our Board of Directors reviews the Policy to determine if changes thereto are advisable and whether the Valuation Team has applied the Policy consistently. With respect to the valuation of our investment portfolio, the Valuation Team performs the following steps each quarter:

 

   

Each investment is initially assessed by the Valuation Team using the Policy, which may include:

 

   

Obtaining fair value quotes or utilizing valuation inputs from third party valuation firms; and

 

   

Using techniques, such as total enterprise value, yield analysis, market quotes and other factors, including: the nature and realizable value of the collateral, including external parties’ guaranties; any relevant offers or letters of intent to acquire the portfolio company; timing of expected repayments; and the markets in which the portfolio company operates.

 

   

Preliminary valuation conclusions are then discussed amongst the Valuation Team and with our management and documented for review by our Board of Directors. Written valuation recommendations and supporting material are sent to the Board of Directors in advance of the quarterly meetings.

 

   

The Valuation Committee of the Board of Directors (comprised entirely of independent directors) meets to review the valuation recommendations and supporting materials, discusses the information provided by the Valuation Team, determines whether the Valuation Team has followed the Policy, determines whether the Valuation Team’s recommended fair value is reasonable in light of the Policy, and reviews other facts and circumstances. Then, the Valuation Committee and chief valuation officer present the Valuation Committee’s findings to the entire Board of Directors, so that the full Board of Directors may review and determine in good faith the fair value of investments in accordance with the Policy.

Fair value measurements of our investments may involve subjective judgment and estimates. Due to the uncertainty inherent in valuing these securities, the determinations of fair value may fluctuate from period to period and may differ materially from the values that could be obtained if a ready market for these securities existed. Our net asset value (“NAV”) could be materially affected if the determinations regarding the fair value of our investments are materially different from the values that we ultimately realize upon our disposal of such securities. Our valuation policies, procedures and processes are more fully described under “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Critical Accounting Policies — Investment Valuation.”

 

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Transactions with Related Parties

Investment Advisory and Management Agreement

Pursuant to our Advisory Agreement, we pay the Adviser certain fees as compensation for its services, consisting of a base management fee and an incentive fee, each as described below. On July 14, 2020, our Board of Directors, including a majority of the directors who are not parties to the Advisory Agreement or interested persons of either party, approved the renewal of the Advisory Agreement through August 31, 2021. Our Board of Directors considered the following factors as the basis for its decision to renew the Advisory Agreement: (1) the nature, extent and quality of services provided by the Adviser to our stockholders, (2) the investment performance of the Company and the Adviser, (3) the costs of the services to be provided and profits to be realized by the Adviser and its affiliates from the relationship with the Company, (4) the extent to which economies of scale will be realized as the Company and the Affiliated Public Funds grow and whether the fee level under the Advisory Agreement reflects the economies of scale for the Company’s investors, (5) the fee structure of the advisory and administrative agreements of comparable funds, (6) indirect profits to the Adviser created through the Company and (7) in light of the foregoing considerations, the overall fairness of the advisory fee paid under the Advisory Agreement.

Base Management Fee

The base management fee is payable quarterly to the Adviser pursuant to our Advisory Agreement and is assessed at an annual rate of 2.0%, computed on the basis of the value of our average gross assets at the end of the two most recently completed quarters (inclusive of the current quarter), which are total assets, including investments made with proceeds of borrowings, less any uninvested cash or cash equivalents resulting from borrowings, valued at the end of the applicable quarters within the respective period, and adjusted appropriately for any share issuances or repurchases during the period.

Additionally, as stated above, pursuant to the requirements of the 1940 Act, the Adviser makes available significant managerial assistance to our portfolio companies. The Adviser may also provide other services to our portfolio companies under certain agreements and may receive fees for services other than managerial assistance. Such services may include: (i) assistance obtaining, sourcing or structuring credit facilities, long term loans or additional equity from unaffiliated third parties; (ii) negotiating important contractual financial relationships; (iii) consulting services regarding restructuring of the portfolio company and financial modeling as it relates to raising additional debt and equity capital from unaffiliated third parties; and (iv) a primary role in interviewing, vetting and negotiating employment contracts with candidates in connection with adding and retaining key portfolio company management team members. The Adviser non-contractually, unconditionally, and irrevocably credits 100% of any fees received for such services against the base management fee that we would otherwise be required to pay to the Adviser; however, pursuant to the terms of the Advisory Agreement, a small percentage of certain of such fees is retained by the Adviser in the form of reimbursement, at cost, for tasks completed by personnel of the Adviser, primarily related to the valuation of portfolio companies. Loan servicing fees that are payable to the Adviser pursuant to our Fifth Amended and Restated Credit Agreement, as amended (the “Credit Facility”), are also 100% credited against the base management fee as discussed below “—Loan Servicing Fee Pursuant to Credit Facility.

Incentive Fee

The incentive fee payable to the Adviser under our Advisory Agreement consists of two parts: an income-based incentive fee and a capital gains-based incentive fee.

The income-based incentive fee rewards the Adviser if our quarterly net investment income (before giving effect to any incentive fee) exceeds 1.75% of our net assets, which we define as total assets less indebtedness and before taking into account any incentive fees payable or contractually due but not payable during the period, at the end of the immediately preceding calendar quarter, adjusted appropriately for any share issuances or

 

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repurchases during the period (the “Hurdle Rate”). The income-based incentive fee with respect to our pre-incentive fee net investment income is payable quarterly to the Adviser and is computed as follows:

 

   

No incentive fee in any calendar quarter in which our pre-incentive fee net investment income does not exceed the Hurdle Rate;

 

   

100.0% of our pre-incentive fee net investment income with respect to that portion of such pre-incentive fee net investment income, if any, that exceeds the Hurdle Rate but is less than 2.1875% of our net assets, adjusted appropriately for any share issuances or repurchases during the period, in any calendar quarter; and

 

   

20.0% of the amount of our pre-incentive fee net investment income, if any, that exceeds 2.1875% of our net assets, adjusted appropriately for any share issuances or repurchases during the period, in any calendar quarter.

Quarterly Incentive Fee Based on Net Investment Income

Pre-incentive fee net investment income

(expressed as a percentage of the value of net assets)

 

LOGO

Percentage of pre-incentive fee net investment income

allocated to income-related portion of incentive fee

The second part of the incentive fee is a capital gains-based incentive fee that is determined and payable in arrears as of the end of each fiscal year (or upon termination of the Advisory Agreement, as of the termination date), and equals 20.0% of our realized capital gains, less any realized capital losses and unrealized depreciation, calculated as of the end of the preceding calendar year. The capital gains-based incentive fee payable to the Adviser is calculated based on (i) cumulative aggregate realized capital gains since our inception, less (ii) cumulative aggregate realized capital losses since our inception, less (iii) the entire portfolio’s aggregate unrealized capital depreciation, if any, as of the date of the calculation. If this number is positive at the applicable calculation date, then the capital gains-based incentive fee for such year equals 20.0% of such amount, less the aggregate amount of any capital gains-based incentive fees paid in respect of our portfolio in all prior years. For calculation purposes, cumulative aggregate realized capital gains, if any, equals the sum of the excess between the net sales price of each investment, when sold, and the original cost of such investment since our inception. Cumulative aggregate realized capital losses equals the sum of the deficit between the net sales price of each investment, when sold, and the original cost of such investment since our inception. The entire portfolio’s aggregate unrealized capital depreciation, if any, equals the sum of the deficit between the fair value of each investment security as of the applicable calculation date and the original cost of such investment security. As of and for the year ended March 31, 2021, no capital gains-based incentive fees were contractually due or paid to the Adviser. During the year ended March 31, 2020, capital gains-based incentive fees of $8.1 million were contractually due and paid to the Adviser, which was the first payment of a capital gains-based incentive fee since our inception.

In accordance with GAAP, accrual of the capital gains-based incentive fee is determined as if our investments had been liquidated at their fair values as of the end of the reporting period. Therefore, GAAP requires that the capital gains-based incentive fee accrual consider the aggregate unrealized capital appreciation in the calculation, as a capital gains-based incentive fee would be payable if such unrealized capital appreciation were realized. There can be no assurance that any such unrealized capital appreciation will be realized in the future. Accordingly, a GAAP accrual is calculated at the end of the reporting period based on (i) cumulative aggregate realized capital gains since our inception, plus (ii) the entire portfolio’s aggregate unrealized capital appreciation,

 

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if any, less (iii) cumulative aggregate realized capital losses since our inception, less (iv) the entire portfolio’s aggregate unrealized capital depreciation, if any. If such amount is positive at the end of a reporting period, a capital gains-based incentive fee equal to 20.0% of such amount, less the aggregate amount of capital gains-based incentive fees accrued in all prior years, is recorded, regardless of whether such amount is contractually due under the terms of the Advisory Agreement. If such amount is negative, then there is no accrual for such period and prior period accruals are reversed, as appropriate. During the year ended March 31, 2021, we recorded capital gains-based incentive fees of $5.0 million. During the year ended March 31, 2020, we recorded a reversal of capital gains-based incentive fees of $6.7 million. During the year ended March 31, 2019, we recorded capital gains-based incentive fees of $17.8 million.

Loan Servicing Fee Pursuant to Credit Facility

The Adviser also services the loans held by our wholly-owned subsidiary, Gladstone Business Investment, LLC (“Business Investment”) (the borrower under the Credit Facility), in return for which the Adviser receives a 2.0% annual fee based on the monthly aggregate outstanding balance of loans pledged under the Credit Facility. Since Business Investment is a consolidated subsidiary of ours, coupled with the fact that the total base management fee paid to the Adviser pursuant to the Advisory Agreement cannot exceed 2.0% of total assets (less any uninvested cash or cash equivalents resulting from borrowings) during any given calendar year, we treat the payment of the loan servicing fee pursuant to the Credit Facility as a pre-payment of the base management fee under the Advisory Agreement. Accordingly, these loan servicing fees are 100% non-contractually, unconditionally, and irrevocably credited back to us by the Adviser.

Administration Agreement

We reimburse the Administrator pursuant to the Administration Agreement for our allocable portion of the Administrator’s expenses incurred while performing services to us, which are primarily rent and salaries and benefits expenses of the Administrator’s employees, including, our chief financial officer and treasurer, chief valuation officer, chief compliance officer, general counsel and secretary (who also serves as the Administrator’s president, general counsel, and secretary), and their respective staffs.

Our allocable portion of the Administrator’s expenses is generally derived by multiplying the Administrator’s total expenses by the approximate percentage of time during the current quarter that the Administrator’s employees performed services for us in relation to their time spent performing services for all companies serviced by the Administrator. On July 14, 2020, our Board of Directors, including a majority of the directors who are not parties to the Administration Agreement or interested persons of either party, approved the annual renewal of the Administration Agreement through August 31, 2021.

Other Transactions

Mr. Gladstone also serves on the board of managers of our affiliate, Gladstone Securities, a privately-held broker-dealer registered with the Financial Industry Regulatory Authority and insured by the Securities Investor Protection Corporation. Gladstone Securities is 100% indirectly owned and controlled by Mr. Gladstone and has provided other services, such as investment banking and due diligence services, to certain of our portfolio companies, for which Gladstone Securities receives a fee. Any such fees paid by portfolio companies to Gladstone Securities do not impact the fees we pay to the Adviser or the non-contractual, unconditional, and irrevocable credits against the base management fee. Refer to Note 4 Related Party Transactions in the accompanying Notes to Consolidated Financial Statements for additional information.

Material U.S. Federal Income Tax Considerations

This is a general summary of certain material U.S. federal income tax considerations applicable to us, to our qualification and taxation as a RIC for U.S. federal income tax purposes under Subchapter M of the Code and to the ownership and disposition of our shares. This summary does not purport to be a complete description of all of the tax considerations relating thereto. In particular, we have not described certain considerations that may be

 

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relevant to certain types of stockholders subject to special treatment under U.S. federal income tax laws. This summary does not discuss any aspect of state, local or foreign tax laws, or the U.S. estate or gift tax.

RIC Status

To qualify for treatment as a RIC under Subchapter M of the Code, we must generally distribute to our stockholders, for each taxable year, at least 90% of our taxable ordinary income plus the excess of our realized net short-term capital gains over our realized net long-term capital losses (“Investment Company Taxable Income”). We refer to this as the “annual distribution requirement.” We must also meet several additional requirements, including:

 

   

Business Development Company status: At all times during the taxable year, we must maintain our status as a BDC.

 

   

Income source requirements: At least 90% of our gross income for each taxable year must be from dividends, interest, payments with respect to securities loans, gains from sales or other dispositions of securities or other income (including certain deemed inclusions) derived with respect to our business of investing in securities, and net income derived from an interest in a qualified publicly-traded partnership.

 

   

Asset diversification requirements: As of the close of each quarter of our taxable year: (1) at least 50% of the value of our assets must consist of cash, cash items, U.S. government securities, the securities of other regulated investment companies and other securities to the extent that (a) we do not hold more than 10% of the outstanding voting securities of an issuer of such other securities and (b) such other securities of any one issuer do not represent more than 5% of our total assets (the “50% threshold”), and (2) no more than 25% of the value of our total assets may be invested in the securities (other than U.S. government securities or the securities of other regulated investment companies) of (i) one issuer, (ii) two or more issuers that are controlled by us and are engaged in the same or similar or related trades or businesses, and (iii) one or more qualified publicly-traded partnerships.

Failure to Qualify as a RIC

If we are unable to qualify for treatment as a RIC, we would be subject to U.S. federal income tax on all of our taxable income at the regular corporate income tax rate and would be subject to any applicable state and local taxes, even if we distributed all of our Investment Company Taxable Income to our stockholders. We would not be able to deduct distributions to our stockholders, nor would we be required to make such distributions. Distributions would be taxable to our stockholders as ordinary dividend income to the extent of our current or accumulated earnings and profits. Subject to certain limitations under the Code, corporate distributees would be eligible for the dividends received deduction, if applicable. Distributions in excess of our current and accumulated earnings and profits would be treated first as a return of capital to the extent of the stockholder’s adjusted tax basis, and then as capital gain. If we fail to meet the RIC requirements for more than two consecutive years and then seek to requalify as a RIC, we generally would be subject to corporate-level U.S. federal income tax on any unrealized appreciation with respect to our assets unless we make a special election to pay corporate-level U.S. federal income tax on any such unrealized appreciation during the succeeding five-year period.

Qualification as a RIC

If we qualify as a RIC and meet the annual distribution requirement, we will not be subject to U.S. federal income tax on the portion of our Investment Company Taxable Income and net capital gain (realized net long-term capital gain in excess of realized net short-term capital loss) that we timely distribute (or are deemed to distribute) to our stockholders. We would, however, be subject to a 4% nondeductible federal excise tax if we do not distribute, actually or on a deemed basis, an amount at least equal to the sum of (i) 98% of our ordinary income for the calendar year, (ii) 98.2% of our net capital gains for the one-year period ending on October 31 of

 

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the calendar year and (iii) any income realized, but not distributed, in the preceding period (to the extent that income tax was not imposed on such amounts), less certain reductions, as applicable. For the calendar years ended December 31, 2020, 2019 and 2018, we incurred $0.5 million, $0.8 million and $0.3 million, respectively, in excise taxes. As of March 31, 2021, our capital loss carryforward was $0.

Taxation of Our U.S. Stockholders

Distributions

For any period during which we qualify as a RIC for U.S. federal income tax purposes, distributions to our stockholders attributable to our Investment Company Taxable Income generally will be taxable as ordinary income to our stockholders to the extent of our current or accumulated earnings and profits. We first allocate our earnings and profits to distributions to our preferred stockholders and then to distributions to our common stockholders based on priority in our capital structure. Any distributions in excess of our earnings and profits will first be treated as a return of capital to the extent of the stockholder’s adjusted basis in his or her shares of stock and thereafter as capital gain. Distributions of our long-term capital gains, reported by us as such, will be taxable to our stockholders as long-term capital gains regardless of the stockholder’s holding period of the stock and whether the distributions are paid in cash or invested in additional stock. Corporate U.S. stockholders generally are eligible for the 50% dividends received deduction with respect to dividends received from us, but only to the extent such amount is attributable to dividends received by us from taxable domestic corporations.

A RIC that has two or more classes of stock generally is required to allocate to each class proportionate amounts of each type of its income (such as ordinary income, capital gains, qualified dividend income and dividends qualifying for the dividends-received deduction) based upon the percentage of total distributions paid to each class for the tax year. Accordingly, we intend to allocate capital gain distributions, distributions of qualified dividend income, and distributions qualifying for the dividends-received deduction, if any, between our common shares and preferred shares in proportion to the total distributions paid to each class with respect to such tax year.

Any distribution declared by us in October, November or December of any calendar year, payable to our stockholders of record on a specified date in such a month and actually paid during January of the following year, will be treated as if it were paid by us and received by our stockholders on December 31 of the previous year. In addition, we may elect (in accordance with Section 855(a) of the Code) to relate a distribution back to the prior taxable year if we (1) declare such distribution prior to the later of the extended due date for filing our return for that taxable year or the 15th day of the ninth month following the close of the taxable year, (2) make the election in that return, and (3) distribute the amount in the 12-month period following the close of the taxable year but not later than the first regular distribution payment of the same type following the declaration. Any such election will not alter the general rule that a stockholder will be treated as receiving a distribution in the taxable year in which the distribution is made, subject to the October, November, December rule described above. For the fiscal year ended March 31, 2021, Investment Company Taxable Income exceeded distributions declared and paid, and, in accordance with Section 855(a) of the Code, we elected to treat $16.1 million of the first distributions paid to common stockholders in the fiscal year ending March 31, 2022 as having been paid in the fiscal year ended March 31, 2021. In addition, for the fiscal year ended March 31, 2021, net capital gains exceeded distributions declared and paid, and, in accordance with Section 855(a) of the Code, we elected to treat $8.5 million of the first distributions paid to common stockholders in the fiscal year ending March 31, 2022 as having been paid in the fiscal year ended March 31, 2021.

If a common stockholder participates in our “opt in” dividend reinvestment plan, then the common stockholder will have their cash dividends and distributions automatically reinvested in additional shares of our common stock, rather than receiving cash dividends and distributions. Any distributions reinvested under the plan will be taxable to the common stockholder to the same extent, and with the same character, as if the common stockholder had received the distribution in cash. The common stockholder will have an adjusted basis in the additional common shares purchased through the plan equal to the dollar amount that would have been received if the U.S. stockholder had received the dividend or distribution in cash. The additional common shares will have

 

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a new holding period commencing on the day following the day on which the shares are credited to the common stockholder’s account. The plan agent purchases shares in the open market in connection with the obligations under the plan. We do not have a dividend reinvestment plan for our preferred stockholders.

We may distribute our net long-term capital gains, if any, in cash or elect to retain some or all of such gains, pay taxes at the U.S. federal corporate-level income tax rate on the amount retained, and designate the retained amount as a “deemed distribution.” If we elect to retain net long-term capital gains and deem them distributed, each U.S. common stockholder will be treated as if they received a distribution of their pro-rata share of the retained net long-term capital gain and the U.S. federal income tax paid. As a result, each U.S. common stockholder will (i) be required to report their pro-rata share of the retained gain on their tax return as long-term capital gain, (ii) receive a refundable tax credit for their pro-rata share of federal income tax paid by us on the retained gain, and (iii) increase the tax basis of their shares of common stock by an amount equal to the deemed distribution less the tax credit. To use the deemed distribution approach, we must provide written notice to our common stockholders prior to the expiration of 60 days after the close of the relevant taxable year. For the year ended March 31, 2021, we did not elect to retain long-term capital gains and to treat them as deemed distributions to common stockholders. For the years ended March 31, 2020 and 2019, we elected to retain $38.0 million, or $1.15 per common share, and $50.0 million, or $1.52 per common share, respectively, of net long-term capital gains and to treat them as deemed distributions to common stockholders. We incurred $8.0 million, or $0.24 per common share, and $10.5 million, or $0.32 per common share, respectively, for the years ended March 31, 2020 and 2019, of U.S. federal income taxes on behalf of common stockholders related to the retention of capital gains, which are included in Taxes on deemed distribution of long-term capital gains on our accompanying Consolidated Statements of Operations.

Sale of Our Shares

A U.S. stockholder generally will recognize taxable gain or loss if the U.S. stockholder sells or otherwise disposes of the shares of our common or preferred stock. Any gain arising from such sale or disposition generally will be treated as long-term capital gain or loss if the U.S. stockholder has held the shares for more than one year. Otherwise, it will be classified as short-term capital gain or loss. However, any capital loss arising from the sale or disposition of shares of our stock held for six months or less will be treated as long-term capital loss to the extent of the amount of capital gain dividends received, or undistributed capital gain deemed received, with respect to such shares. Under the tax laws in effect as of the date of this filing, individual U.S. stockholders are subject to a maximum federal income tax rate of 20% on their net capital gain (i.e. the excess of realized net long-term capital gain over realized net short-term capital loss for a taxable year) including any long-term capital gain derived from an investment in our shares. Such rate is lower than the maximum rate on ordinary income currently payable by individuals. Corporate U.S. stockholders currently are subject to federal income tax on net capital gain at the same rates applied to their ordinary income. Capital losses are subject to limitations on use for both corporate and non-corporate stockholders. Certain U.S. stockholders who are individuals, estates or trusts generally are also subject to a 3.8% Medicare tax on, among other things, dividends on and capital gain from the sale or other disposition of shares of our stock.

Backup Withholding and Other Required Withholding

We may be required to withhold U.S. federal income tax, or backup withholding, from all taxable distributions to any non-corporate U.S. stockholder (i) who fails to furnish us with a correct taxpayer identification number or a certificate that such stockholder is exempt from backup withholding, or (ii) with respect to whom the Internal Revenue Service (“IRS”) notifies us that such stockholder has failed to properly report certain interest and dividend income to the IRS and to respond to notices to that effect. An individual’s taxpayer identification number is generally his or her social security number. Any amount withheld under backup withholding is allowed as a credit against the U.S. stockholder’s federal income tax liability, provided that proper information is provided to the IRS.

 

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The Foreign Account Tax Compliance Act imposes a U.S. federal withholding tax on certain types of payments made to “foreign financial institutions” and certain other non-U.S. entities unless certain due diligence, reporting, withholding, and certification obligation requirements are satisfied.

Information Reporting

We will send to each of our U.S. stockholders, after the end of each calendar year, a notice providing the amounts includible in the U.S. stockholder’s taxable income for such year as ordinary income and as long-term capital gain for cash distributions received. In addition, the U.S. federal tax status of each year’s distributions will generally be reported to the IRS (including the amount of dividends, if any, eligible for the preferential rates applicable to long-term capital gains).

Regulation as a BDC

We are a closed-end, non-diversified management investment company that has elected to be regulated as a BDC under Section 54 of the 1940 Act. As such, we are subject to regulation under the 1940 Act. The 1940 Act contains prohibitions and restrictions relating to transactions between BDCs and their affiliates, principal underwriters and affiliates of those affiliates or underwriters and requires that a majority of the directors be persons other than “interested persons,” as defined in the 1940 Act. In addition, the 1940 Act provides that we may not change the nature of our business so as to cease to be, or to withdraw our election as, a BDC unless approved by a majority of our outstanding “voting securities,” as defined in the 1940 Act.

We intend to conduct our business so as to retain our status as a BDC. A BDC may use capital provided by public stockholders and from other sources to make long-term investments in private companies. A BDC provides stockholders the ability to retain the liquidity of a publicly-traded stock, while sharing in the possible benefits, if any, of investing in primarily privately owned companies. In general, a BDC must have been organized and have its principal place of business in the U.S. and must be operated for the purpose of making investments in qualifying assets, as described in Sections 55(a)(1) through (a)(3) of the 1940 Act.

Qualifying Assets

Under the 1940 Act, a BDC may not acquire any asset other than assets of the type listed in Section 55(a) of the 1940 Act, which are referred to as qualifying assets, unless, at the time the acquisition is made, qualifying assets, other than certain interests in furniture, equipment, real estate, or leasehold improvements (“Operating Assets”), represent at least 70% of total assets, exclusive of Operating Assets. The types of qualifying assets in which we may invest under the 1940 Act include the following:

 

  (1)

Securities purchased in transactions not involving any public offering from the issuer of such securities, which issuer is an eligible portfolio company. An eligible portfolio company is generally defined in the 1940 Act as any issuer which:

 

  (a)

Is organized under the laws of, and has its principal place of business in, any state or states in the U.S.;

 

  (b)

Is not an investment company (other than a small business investment company wholly owned by the BDC or otherwise excluded from the definition of investment company); and

 

  (c)

Satisfies one of the following:

 

  (i)

It does not have any class of securities with respect to which a broker or dealer may extend margin credit;

 

  (ii)

It is controlled by the BDC and for which an affiliate of the BDC serves as a director;

 

  (iii)

It has total assets of not more than $4 million and capital and surplus of not less than $2 million;

 

  (iv)

It does not have any class of securities listed on a national securities exchange; or

 

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  (v)

It has a class of securities listed on a national securities exchange, with an aggregate market value of outstanding voting and non-voting equity of less than $250 million.

 

  (2)

Securities received in exchange for or distributed on or with respect to securities described in (1) above, or pursuant to the exercise of options, warrants or rights relating to such securities.

 

  (3)

Cash, cash items, government securities or high quality debt securities maturing in one year or less from the time of investment.

As of March 31, 2021, 99.7% of our assets were qualifying assets.

Asset Coverage

Pursuant to Section 61(a)(3) of the 1940 Act, we are permitted, under specified conditions, to issue multiple classes of senior securities representing indebtedness. However, pursuant to Section 18(c) of the 1940 Act, we are permitted to issue only one class of senior securities that is stock. In either case, we may only issue such senior securities if such class of senior securities, after such issuance, has an asset coverage, as defined in Section 18(h) of the 1940 Act, of at least 150%.

In addition, our ability to pay dividends or distributions (other than dividends payable in our common stock) to holders of any class of our capital stock would be restricted if our senior securities representing indebtedness fail to have an asset coverage of at least 150% (measured at the time of declaration of such distribution and accounting for such distribution). The 1940 Act does not apply this limitation to privately arranged debt that is not intended to be publicly distributed, unless this limitation is specifically negotiated by the lender. In addition, our ability to pay dividends or distributions (other than dividends payable in our common stock) to our common stockholders would be restricted if our senior securities that are stock fail to have an asset coverage of at least 150% (measured at the time of declaration of such distribution and accounting for such distribution). When the value of our assets declines, we might be unable to satisfy these asset coverage requirements. To satisfy the 150% asset coverage requirement in the event that we are seeking to pay a distribution, we might either have to (i) liquidate a portion of our portfolio to repay a portion of our indebtedness or (ii) issue common stock. This may occur at a time when a sale of a portfolio asset may be disadvantageous, or when we have limited access to capital markets on agreeable terms. In addition, any amounts that we use to service our indebtedness or for offering costs will not be available for distributions to our stockholders. If we are unable to regain the requisite asset coverage through these methods, we may be forced to suspend the payment of such dividends or distributions.

Significant Managerial Assistance

A BDC generally must make available significant managerial assistance to issuers of certain of its portfolio securities that the BDC counts as a qualifying asset for the 70% test described above. Making available significant managerial assistance means, among other things, any arrangement whereby the BDC, through its directors, officers or employees, offers to provide, and, if accepted, does so provide, significant guidance and counsel concerning the management, operations or business objectives and policies of a portfolio company. Significant managerial assistance also includes the exercise of a controlling influence over the management and policies of the portfolio company. However, with respect to certain, but not all such securities, where the BDC purchases such securities in conjunction with one or more other persons acting together, one of the other persons in the group may make available such managerial assistance, or the BDC may exercise such control jointly.

Summary of Risk Factors

Below is a summary of the principal risk factors associated with an investment in our securities. In addition to the below, you should carefully consider the information included in “Risk Factors”, beginning on page 22 of this Annual Report, together with all of the other information included in this Annual Report and the other reports and documents filed or furnished by us with the SEC for a more detailed discussion of the principal risks, as well as certain other risks that you should carefully consider before deciding to invest in our securities.

 

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Market conditions could negatively impact our business, results of operations, cash flows and financial condition.

 

   

Volatility in the capital markets may make it more difficult to raise capital and may adversely affect the valuations of our investments.

 

   

Our business has been, and in the future could be further, adversely affected by the current coronavirus pandemic and related government actions.

 

   

Our investments in lower middle market companies are extremely risky and could cause you to lose all or a part of your investment.

 

   

The lack of liquidity of our privately held investments may adversely affect our business.

 

   

Our investments are typically long-term and will require several years to realize liquidation events.

 

   

We typically invest in transactions involving acquisitions, buyouts and recapitalizations of companies, which will subject us to the risks associated with change in control transactions.

 

   

Our portfolio is concentrated in a limited number of companies and industries, which subjects us to an increased risk of significant loss if any one of these companies does not repay us or if the industries experience downturns.

 

   

Any inability to renew, extend or replace our Credit Facility on terms favorable to us, or at all, could adversely impact our liquidity and ability to fund new investments or maintain distributions to our stockholders.

 

   

Changes in laws or regulations governing our operations, or changes in the interpretation thereof, and any failure by us to comply with laws or regulations governing our operations may adversely affect our business.

 

   

There are significant potential conflicts of interest, including with the Adviser, which could impact our investment returns.

 

   

Our success depends on the Adviser’s ability to attract and retain qualified personnel in a competitive environment.

 

   

Our incentive fee may induce the Adviser to make certain investments, including speculative investments.

 

   

We may be obligated to pay the Adviser incentive compensation even if we incur a loss.

 

   

The Adviser is not obligated to provide a credit of the base management fee or incentive fee, which could negatively impact our earnings and our ability to maintain our current level of distributions to our stockholders.

 

   

There is a risk that you may not receive distributions or that distributions may not grow over time

 

   

Investing in our securities may involve an above average degree of risk.

 

   

Common shares of closed-end investment companies frequently trade at a discount to the NAV.

 

   

Our mandatorily redeemable preferred stock bears a risk of early redemption by us.

 

   

Cybersecurity risks and cyber incidents may adversely affect our business by causing a disruption to our operations, or the operations of businesses in which we invest, a compromise or corruption of our confidential information and/or damage to our business relationships, all of which could negatively impact our business, financial condition and operating results.

 

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Code of Ethics

We, and all of the Gladstone family of companies, have adopted a code of ethics and business conduct applicable to all of the officers, directors and personnel of such companies that complies with the guidelines set forth in Item 406 of Regulation S-K of the Securities Act of 1933, as amended (the “Securities Act”), and Rule 17j-1 of the 1940 Act. As required by the 1940 Act, this code establishes procedures for personal investments, restricts certain transactions by such personnel and requires the reporting of certain transactions and holdings by such personnel. This code of ethics and business conduct is publicly available on our website under “Investors -

Governance—Governance Documents” at www.GladstoneInvestment.com. We intend to provide any required disclosure of any amendments to or waivers of the provisions of this code by posting information regarding any such amendment or waiver to our website or in a Current Report on Form 8-K.

Compliance Policies and Procedures

We and the Adviser have adopted and implemented written policies and procedures reasonably designed to prevent violation of the federal securities laws, and our Board of Directors is required to review these compliance policies and procedures annually to assess their adequacy and the effectiveness of their implementation. We have designated a chief compliance officer, John Dellafiora, Jr., who also serves as chief compliance officer for all of our Gladstone affiliates.

Staffing

We do not currently have any employees and do not expect to have any employees in the foreseeable future. Currently, services necessary for our business are provided by individuals who are employees of the Adviser and the Administrator pursuant to the terms of the Advisory Agreement and the Administration Agreement, respectively. No employee of the Adviser or the Administrator dedicates all of his or her time to us. However, we expect that 20 to 25 full-time employees of the Adviser and the Administrator will spend substantial time on our matters during the remainder of calendar year 2021 and all of calendar year 2022. To the extent we acquire more investments, we anticipate that the number of employees of the Adviser and the Administrator who devote time to our matters will increase.

As of March 31, 2021, the Adviser and Administrator collectively had 67 full-time employees. A breakdown of these employees is summarized by functional area in the table below:

 

Number of
Individuals

  

Functional Area

12

  

Executive management

19

  

Accounting, administration, compliance, human resources, legal, and treasury

36

  

Investment management, portfolio management, and due diligence

The Adviser and the Administrator aim to attract and retain capable advisory and administrative personnel, respectively, by offering competitive base salaries and bonus structure and by providing employees with appropriate opportunities for professional growth.

Available Information

We file with or furnish to the SEC copies of our annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, proxy statements and other information meeting the information requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), and make such reports and any amendments thereto available free of charge through the “Investors – SEC Filings” section of our website at www.GladstoneInvestment.com as soon as reasonably practicable after such materials are electronically filed with or furnished to the SEC. Information contained on our website is not incorporated by reference into this Annual Report. The SEC also maintains a website that contains reports, proxy and information statements, and other information regarding issuers that file electronically with the SEC at www.sec.gov.

 

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ITEM 1A.

RISK FACTORS

You should carefully consider these risk factors, together with all of the other information included in this Annual Report and the other reports and documents filed by us with the SEC. The risks set out below are not the only risks we face. Additional risks and uncertainties not presently known to us, or not presently deemed material by us, may also impair our operations and performance. If any of the following events occur, our business, financial condition, results of operations and cash flows could be materially and adversely affected. If that happens, the trading price of our securities and the NAV of our common stock could decline, and you may lose all or part of your investment. The risk factors described below are the principal risk factors associated with an investment in our securities as well as those factors generally associated with an investment company with investment objectives, investment policies, capital structure or trading markets similar to ours.

Risks Related to the Economy

Market conditions could negatively impact our business, results of operations, financial condition, and cash flows.

The market in which we operate is affected by a number of factors that are largely beyond our control but can nonetheless have a potentially significant, negative impact on us. These factors include, among other things:

 

   

Changes in interest rates and credit spreads;

 

   

The availability of credit, including the price, terms and conditions under which it can be obtained;

 

   

The quality, pricing, and availability of suitable investments and losses with respect to our investments;

 

   

The ability to obtain accurate market-based valuations;

 

   

Investment values relative to the value of the underlying assets;

 

   

Prepayment rates, delinquency rates and legislative / regulatory changes with respect to our investments;

 

   

Competition;

 

   

The impact of COVID-19 generally and on the economy, the capital markets and our portfolio companies, including the measures taken by governmental authorities to address it;

 

   

The actual and perceived state of the economy and public capital markets generally;

 

   

Amendments or repeals of legislation, or changes in regulations or regulatory interpretations thereof, and transitions of government, including uncertainty regarding any of the foregoing;

 

   

The national and global political environment, including foreign relations and trading policies;

 

   

The impact of potential changes to the Code; and

 

   

The attractiveness of other types of investments relative to investments in Lower Middle Market companies generally.

Changes in these factors are difficult to predict, and a change in one factor could affect other factors, which could result in adverse effects to our business, results of operations, financial condition, and cash flows.

Volatility in the capital markets could make it more difficult to raise capital and has, and could in the future, adversely affect the valuations of our investments.

Given the volatility and dislocation that the capital markets are experiencing and have experienced from time to time, many BDCs have faced, and may in the future face, a challenging environment in which to raise capital. We could in the future have difficulty accessing debt and equity capital, and a severe disruption in the global

 

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financial markets or deterioration in credit and financing conditions could have a material adverse effect on our business, financial condition, results of operations, and cash flows. In addition, significant changes in the capital markets have had, and may in the future have, a negative effect on the valuations of our investments and on the potential for liquidity events involving our investments. An inability to raise capital, and any required sale of our investments for liquidity purposes, could have a material adverse impact on our business, financial condition, results of operations, or cash flows.

Our business has been, and in the future could be further, adversely affected by the current coronavirus pandemic and related government actions.

As of the date of this Annual Report, there is a continuing outbreak of a novel and highly contagious form of coronavirus. The World Health Organization has declared the disease (“COVID-19”) it causes to constitute a pandemic. The outbreak of COVID-19 has resulted in numerous deaths, adversely impacted global commercial activity and contributed to significant volatility in certain equity and debt markets. In response to the COVID-19 pandemic, many countries, including the U.S., reacted by instituting quarantines, prohibiting travel and ordering the closure of offices, businesses, schools, retail stores and other public venues. Businesses also implemented similar precautionary measures. Such measures created significant disruptions in and continue to adversely impact economic activity, particularly in the transportation, hospitality, tourism, entertainment and certain other industries. As COVID-19 cases fluctuate, certain governments have (and others in the future may) reinstituted these or other measures, which could further exacerbate the adverse impacts on economic activity.

As a result of these and other factors, the COVID-19 pandemic, and any future public health emergency or the threat thereof, could have a significant adverse impact on us and our portfolio companies and could adversely affect our ability to fulfill our investment objectives.

The extent of the impact of COVID-19, or any public health emergency, on our operational and financial performance will depend on many factors, including the duration and scope of such public health emergency, the extent of any related travel advisories and restrictions implemented, the impact of such public health emergencies on overall supply and demand, goods and services, investor liquidity, consumer confidence and levels of economic activity and the extend of its disruption to important global, regional and local supply chains and economic markets, all of which are highly uncertain and cannot be predicted.

The effects of a public health emergency may materially and adversely impact the value and performance of our investments, our ability to source, manage and divest investments and our ability to achieve our investment objectives, all of which could result in significant losses to us. In addition, our operations and our Adviser’s operations may be significantly impacted, or even temporarily or permanently halted, as a result of government quarantine measures, voluntary and precautionary restrictions on travel or meetings and other factors related to a public health emergency, including its potential adverse impact on the health of our Adviser’s personnel.

Public health threats, including the COVID-19 pandemic, may adversely impact the businesses in which we invest and affect our business, operating results, and financial condition.

Public health threats, such as COVID-19 or any other illness, may disrupt the operations of the businesses in which we invest. Such threats can create economic and political uncertainties and can contribute to global economic instability. A public health threat poses the risk that our portfolio companies may have significantly reduced or be prevented from conducting business activities for an unknown period of time, including shutdowns that may be requested or mandated by governmental authorities, or that they may experience disruptions in their supply chains or decreased consumer demand. As governments ease restrictions, certain of our portfolio companies may experience increases in health and safety expenses, payroll costs and other operating expenses. These adverse economic impacts may decrease the value of our investments. These negative impacts on our portfolio companies and their performance may increase realized and unrealized losses related to our investments, which may, in turn, adversely impact our business, financial condition or results of operations.

 

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Risks Related to Interest Rates

Market interest rates may have an effect on the value of our securities.

One of the factors that influences the price of our securities is the distribution yield on our securities (as a percentage of the price of our securities) relative to market interest rates. An increase in market interest rates, which are currently at low levels relative to historical rates, may lead prospective purchasers of our securities to expect a higher distribution yield. In addition, higher interest rates would likely increase our borrowing costs and potentially decrease funds available for distribution. As a result, higher market interest rates could cause the market price of our securities to decrease.

A change in interest rates may adversely affect our profitability and hedging arrangements may expose us to additional risks.

We anticipate using a combination of equity and long-term and short-term borrowings to finance our investment activities. As a result, a portion of our income will depend upon the spread between the rate at which we borrow funds and the rate at which we loan these funds. An increase or decrease in interest rates could reduce the spread between the rate at which we invest and the rate at which we borrow, and thus, adversely affect our profitability if we have not appropriately hedged against such event. Alternatively, interest rate hedging arrangements may limit our ability to participate in the benefits of lower interest rates with respect to the hedged portfolio.

Ultimately, we expect approximately 90.0% of the loans in our portfolio to be at variable rates determined on the basis of the LIBOR and approximately up to 10.0% to be at fixed rates. As of March 31, 2021, based on the total principal balance of debt investments outstanding, our portfolio consisted of 97.7% of loans at variable rates with floors and 2.3% at fixed rates.

As of March 31, 2021, we did not have any hedging arrangement, such as interest rate hedges. While hedging arrangements may insulate us against adverse fluctuations in interest rates, they may also limit our ability to participate in the benefits of lower interest rates with respect to the hedged portfolio. Adverse developments resulting from changes in interest rates or any future hedging transactions could have a material adverse effect on our business, financial condition, results of operations, and cash flows. Our ability to receive payments pursuant to a hedging arrangement is linked to the ability of the counter-party to that hedging arrangement to make the required payments. To the extent that the counter-party to the hedging arrangement is unable to pay pursuant to the terms of the agreement, we may lose the hedging protection of the arrangement.

Also, the fair value of certain of our debt investments is based, in part, on the current market yields or interest rates of similar securities. A change in interest rates could have a significant impact on our determination of the fair value of these debt investments. In addition, a change in interest rates could also have an impact on the fair value of any hedging arrangements then in effect that could result in the recording of unrealized appreciation or depreciation in future periods. Therefore, adverse developments resulting from changes in interest rates could have a material adverse effect on our business, financial condition, results of operations, and cash flows. Refer to “Quantitative and Qualitative Disclosures About Market Risk” for additional information on interest rate fluctuations.

The interest rates of some of our term loans to our portfolio companies are priced using a spread over LIBOR, which may be phased out in the future.

LIBOR is the basic rate of interest used in lending between banks on the London interbank market and is widely used as a reference for setting the interest rate on loans globally. In general, our investments in debt securities have a term of five years, accrue interest at variable rates based on LIBOR and, to a lesser extent, at fixed rates. As of March 31, 2021, our loan portfolio consisted of 97.7% variable rate loans with floors and 2.3% fixed rate loans based on the total principal balance of all outstanding debt investments.

 

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As a result of concerns about the accuracy of the calculation of LIBOR, a number of British Bankers’ Association (the “BBA”) member banks entered into settlements with certain regulators and law enforcement agencies with respect to the alleged manipulation of LIBOR. Actions by the BBA, regulators or law enforcement agencies as a result of these or future events, may result in changes to the manner in which LIBOR is determined. Potential changes, or uncertainty related to such potential changes may adversely affect the market for LIBOR-based securities, including our portfolio of LIBOR-indexed, floating-rate debt securities and our borrowings. In addition, changes or reforms to the determination or supervision of LIBOR may result in a sudden or prolonged increase or decrease in reported LIBOR, which could have an adverse impact on the market for LIBOR-based securities or the value of our portfolio of LIBOR-indexed, floating-rate debt securities and our borrowings.

On July 27, 2017, the United Kingdom’s Financial Conduct Authority (“FCA”, which regulates LIBOR, announced that it intends to phase out LIBOR by the end of 2021. However, the FCA has indicated it will not compel panel banks to continue to contribute to LIBOR after the end of 2021. Following consultations in December 2020 and January 2021, the ICE Benchmark Administration Limited (the “IBA”) announced that (i) it intends to cease publication of 1-week and 2-month U.S. dollar LIBOR at the end of 2021 and (ii) subject to compliance with applicable regulations, it intends to continue publication of the remaining U.S. dollar LIBOR tenors until June 30, 2023, effectively extending the LIBOR transition period to June 30, 2023. There is currently no definitive information regarding the future utilization of LIBOR or of any particular replacement rate. The committee established by the Federal Reserve, the Alternative Reference Rates Committee, announced the replacement of LIBOR with a new index, based on overnight repurchase agreements collateralized by U.S. Treasury securities, called the Secured Overnight Financing Rate (“SOFR”). The Federal Reserve Bank of New York began publishing SOFR in April 2018. Other jurisdictions have also proposed their own alternative to LIBOR, including the Sterling Overnight Index Average for Sterling markets, the Euro Short Term Rate for Euros and Tokyo Overnight Average Rate for Japanese Yens. Although SOFR appears to be the preferred replacement rate for U.S. dollar LIBOR, at this time, it is not possible to predict whether SOFR will attain market traction as a LIBOR replacement tool, and the future of LIBOR is still uncertain. The effect of any such changes, any establishment of alternative reference rates or any other reforms to LIBOR or other reference rates that may be enacted in the United Kingdom or elsewhere cannot be predicted at this time, and it is not possible to predict whether LIBOR will continue to be viewed as an acceptable market benchmark, what rate or rates may become accepted alternatives to LIBOR, or what the effect of any such changes in views or alternatives may have on the financial markets for financial instruments based on LIBOR. To date, certain of the loan agreements with our portfolio companies have already been amended to include fallback language providing a mechanism for the parties to negotiate a new reference interest rate in the event that LIBOR ceases to exist. Factors such as the pace of the transition to replacement or reformed rates, the specific terms and parameters for and market acceptance of any alternative reference rate, prices of and the liquidity of trading markets for products based on alternative reference rates, and our ability to transition and develop appropriate systems and analytics for one or more alternative reference rates could also have a material adverse effect on our business, financial condition and results of operations. In addition, any further changes or reforms to the determination or supervision of LIBOR may result in a sudden or prolonged increase or decrease in reported LIBOR, which could have a material adverse effect on our business, financial condition, tax position and results of operations.

Risks Related to Our Investments

We operate in a highly competitive market for investment opportunities.

A large number of entities compete with us to make the types of investments we seek to make in Lower Middle Market companies. We generally compete with public and private buyout funds, commercial and investment banks, commercial financing companies, and, to the extent that they provide an alternative form of financing, hedge funds, mutual funds, and private equity. Many of our competitors are substantially larger and have considerably greater financial, technical and marketing resources than we do. For example, some competitors may have a lower cost of funds and access to funding sources that are not available to us. In addition, some of our competitors may have higher risk tolerances or different risk assessments, which would allow them to consider a wider variety of investments and establish more relationships than us. Furthermore, many of our

 

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competitors are not subject to the regulatory restrictions that the 1940 Act imposes on us as a BDC. The competitive pressures we face could have a material adverse effect on our business, financial condition and results of operations. Also, as a result of this competition, we may not be able to take advantage of attractive investment opportunities from time to time and we can offer no assurance that we will be able to identify and make investments that are consistent with our investment objectives. We do not seek to compete based on the interest rates we offer, and we believe that some of our competitors may make loans with interest rates that will be comparable to or lower than the rates we offer. We may lose investment opportunities if we do not match our competitors’ pricing, terms, and structure. However, if we match our competitors’ pricing, terms, and structure, we may experience decreased net interest income and increased risk of credit loss.

Our investments in Lower Middle Market portfolio companies are extremely risky and could cause you to lose all or a part of your investment.

Investments in Lower Middle Market portfolio companies are subject to a number of significant risks including the following:

 

   

Lower Middle Market businesses are likely to be more significantly impacted in economic downturns than larger businesses. Our portfolio companies may have fewer resources than larger businesses, and any economic downturns or recessions are more likely to have a material adverse effect on them. When the economy contracts, the financial results of Lower Middle Market businesses, like those in which we invest, could experience deterioration or limited growth from current levels, which could ultimately lead to difficulty in meeting their debt service requirements and an increase in defaults. Consequently, for any portfolio company that is adversely impacted by an economic downturn or recession, its ability to repay our loan(s) or engage in a liquidity event, such as a sale, recapitalization or initial public offering would be diminished.

 

   

Lower Middle Market businesses may have limited financial resources and may not be able to repay the loans we make to them. Our strategy includes providing financing to portfolio companies that typically do not have readily available access to financing. While we believe that this provides an attractive opportunity for us to generate profits, this may make it difficult for the portfolio companies to repay their loans to us upon maturity. A borrower’s ability to repay its loan(s) may be adversely affected by numerous factors, including the failure to meet its business plan, a downturn in its industry or negative economic conditions. Deterioration in a borrower’s financial condition and prospects usually will be accompanied by deterioration in the value of any collateral and a reduction in the likelihood of realizing on any guaranties we may have obtained from the borrower’s management. As of March 31, 2021, loans to three portfolio companies were on non-accrual status with an aggregate debt cost basis of $61.1 million, or 12.4% of the cost basis of all debt investments in our portfolio. While we are working with these portfolio companies to improve their profitability and cash flows, there can be no assurance that our efforts will prove successful. Although we will generally seek to be a secured first lien lender to a borrower, in some of our loans we expect to be subordinated to a senior lender and our security interest in any collateral would, accordingly, likely be second lien and subordinate to another lender’s security interest.

 

   

Lower Middle Market businesses typically have narrower product lines and smaller market shares than large businesses. Our target portfolio companies tend to be more vulnerable to competitors’ actions and market conditions, as well as general economic downturns. In addition, our portfolio companies may face intense competition, including competition from companies with greater financial resources, more extensive development, manufacturing, marketing and other capabilities and a larger number of qualified managerial and technical personnel.

 

   

There is generally little or no publicly available information about these businesses. Because we seek to invest in privately owned businesses, there is generally little or no publicly available operating and financial information about our potential portfolio companies. As a result, we rely on our officers, the Adviser and its employees, Gladstone Securities and consultants to perform due diligence

 

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investigations of these portfolio companies, their operations, and their prospects. We may not learn all of the material information we need to know regarding these businesses through our investigations to make a well-informed investment decision.

 

   

Lower Middle Market businesses generally have less predictable operating results. We expect that our portfolio companies may have significant variations in their operating results, may from time to time be exposed to litigation, may be engaged in rapidly changing businesses with products subject to a substantial risk of obsolescence, may require substantial additional capital to support their operations, to finance expansion or to maintain their competitive position, may otherwise have a weak financial position or may be adversely affected by changes in the business cycle. Our portfolio companies may not meet net income, cash flow and other coverage tests typically imposed by their senior lenders. A borrower’s failure to satisfy financial or operating covenants imposed by senior lenders could lead to defaults and, potentially, foreclosure on its senior credit facility, which could additionally trigger cross-defaults in other agreements. If this were to occur, it is possible that the borrower’s ability to repay our loan(s) would be jeopardized.

 

   

Lower Middle Market businesses are more likely to be dependent on one or two persons. Typically, the success of a Lower Middle Market business also depends on the management talents and efforts of one or two persons or a small group of persons. The death, disability or resignation of one or more of these persons could have a material adverse impact on our portfolio company and, in turn, on us.

 

   

Lower Middle Market businesses may have limited operating histories. While we intend to continue to target stable companies with proven track records, we may invest in new companies that meet our other investment criteria. Portfolio companies with limited operating histories will be exposed to all of the operating risks that new businesses face and may be particularly susceptible to, among other risks, market downturns, competitive pressures and the departure of key executive officers.

 

   

Debt securities of Lower Middle Market companies typically are not rated by a credit rating agency. Typically, a Lower Middle Market business cannot or will not expend the resources to have their debt securities rated by a credit rating agency. We expect that most, if not all, of the debt securities we acquire will be unrated. Investors should assume that these loans would be at rates below what is considered “investment grade” quality. Investments rated below investment grade are often referred to as high yield securities or junk bonds and may be considered high risk as compared to investment grade debt instruments.

 

   

Lower Middle Market companies may be highly leveraged. Some of our portfolio companies are highly leveraged, which could have adverse consequences to these companies and to us as an investor. These companies may be subject to restrictive financial and operating covenants and the leverage could impair these companies’ ability to finance their future operations and capital needs. As a result, these companies’ flexibility to respond to changing business and economic conditions (including those currently presented by the COVID-19 pandemic) and to take advantage of business opportunities may be limited. Further, a leveraged company’s income and net assets will tend to increase or decrease at a greater rate than if borrowed money were not used.

Because the loans we make and equity securities we invest in are not publicly traded, there is uncertainty regarding the value of our privately-held securities that could adversely affect our determination of our NAV.

Substantially all of our portfolio investments are, and we expect will continue to be, in the form of securities that are not publicly traded. The fair value of securities and other investments that are not publicly traded may not be readily determinable. Our Board of Directors has ultimate responsibility for reviewing and determining in good faith the fair value of our investments for which market quotations are not readily available, based on the Policy. Our Board of Directors reviews valuation recommendations that are provided by the Valuation Team. In valuing our investment portfolio, several techniques are used, including, a total enterprise value approach, a yield analysis, and market quotes. Currently, ICE Data Pricing and Reference Data, LLC provides estimates of fair

 

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value on generally all of our debt investments that are not valued using total enterprise value (“TEV”) and we use another independent valuation firm to provide valuation inputs for our significant equity investments, which are generally valued using TEV, including earnings multiple ranges, as well as other information. In addition to these techniques, inputs and information, other factors are considered when determining fair value of our investments, including: the nature and realizable value of the collateral, including external parties’ guaranties; any relevant offers or letters of intent to acquire the portfolio company; timing of expected loan repayments; and the markets in which the portfolio company operates. Refer to “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Critical Accounting Policy — Investment Valuation” for additional information on our valuation policies, procedures, and processes.

Fair value measurements of our investments may involve subjective judgments and estimates and, due to the uncertainty inherent in valuing these securities, the determination of fair value may fluctuate from period to period and may differ materially from the values that could be obtained if a ready market for these securities existed. Additionally, changes in the market environment and other events that may occur over the life of the investment may cause the gains or losses ultimately realized on these investments to be different than the valuations currently assigned.

Our NAV would be adversely affected if the fair value of our investments that are approved by our Board of Directors are higher than the values that we ultimately realize upon the disposal of such securities.

The valuation process for certain of our portfolio holdings creates a conflict of interest.

A substantial portion of our portfolio investments are securities for which market quotations are not readily available. As a result, our Board of Directors determines the fair value of these securities in good faith pursuant to the Policy. In connection with that determination, our Valuation Team prepares portfolio company valuations based upon the most recent portfolio company financial statements available and projected financial results of each portfolio company. The participation of our Adviser’s investment professionals in our valuation process and Mr. Gladstone’s pecuniary interest in our Adviser may result in a conflict of interest, as the management fees that we pay our Adviser are based on our average gross assets, less uninvested cash or cash equivalents from borrowings, and adjusted appropriately for any share issuances or repurchases during the period.

The lack of liquidity of our privately-held investments may adversely affect our business.

We will generally make investments in private companies whose securities are not traded in any public market. Substantially all of the investments we presently hold and the investments we expect to acquire in the future are, and will be, subject to legal and other restrictions on resale and will otherwise be less liquid than publicly-traded securities. The illiquidity of our investments may make it difficult for us to quickly obtain cash equal to the value at which we record our investments if the need arises. This could cause us to miss important investment opportunities. In addition, if we are required to liquidate all or a portion of our portfolio quickly, we may record substantial realized losses upon liquidation. We may also face other restrictions on our ability to liquidate an investment in a portfolio company to the extent that we, the Adviser, the Administrator, or our respective officers, or affiliates have material non-public information regarding such portfolio company.

Due to the uncertainty inherent in valuing these securities, the Adviser’s determinations of fair value may differ materially from the values that could be obtained if a ready market for these securities existed. Our NAV could be materially affected if the Adviser’s determinations regarding the fair value of our investments are materially different from the values that we ultimately realize upon our disposal of such securities. Additional discussion regarding risks associated with determinations made by the Adviser is found in the risk factor “The valuation process for certain of our portfolio holdings creates a conflict of interest.”

 

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Our financial results could be negatively affected if a significant portfolio investment fails to perform as expected.

Our total investment in one or more companies may be significant individually or in the aggregate. As a result, if a significant investment in one or more companies fails to perform as expected, our financial results could be more negatively affected and the magnitude of the loss could be more significant than if we had made smaller investments in more companies. Our five largest investments represented more than 35% of the fair value of our total portfolio as of March 31, 2021 and 2020. Any disposition of a significant investment in one or more portfolio companies may negatively impact our net investment income and limit our ability to pay distributions.

We typically invest in transactions involving acquisitions, buyouts and recapitalizations of companies, which will subject us to the risks associated with change in control transactions.

Our strategy, in part, includes making debt and equity investments in companies in connection with acquisitions, buyouts and recapitalizations, which subjects us to the risks associated with change in control transactions. Change in control transactions often present a number of uncertainties. Companies undergoing change in control transactions often face challenges retaining key employees and maintaining relationships with customers and suppliers. While we hope to avoid many of these difficulties by participating in transactions where the management team is retained and by conducting thorough due diligence in advance of our decision to invest, if our portfolio companies experience one or more of these problems, we may not realize the value that we expect in connection with our investments, which would likely harm our operating results, financial condition, and cash flows.

Our portfolio companies may incur debt that ranks equally with, or senior to, our investments in such companies and/or we could be subject to lender liability claims.

We primarily invest in secured first and second lien debt securities issued by our portfolio companies. In some cases, portfolio companies will be permitted to have other debt that ranks equally with, or senior to, the debt securities in which we invest. By their terms, such debt securities may provide that the holders thereof are entitled to receive payment of interest and principal on or before the dates on which we are entitled to receive payments in respect of the debt securities in which we invest. Also, in the event of insolvency, liquidation, dissolution, reorganization, or bankruptcy of a portfolio company, holders of debt instruments ranking senior to our investment in that portfolio company would typically be entitled to receive payment in full before we receive any distribution in respect of our investment. Additionally, depending on the facts and circumstances, including the extent to which we provide managerial assistance to any portfolio company subject to bankruptcy, a bankruptcy court might re-characterize our debt investments and subordinate all or a portion of our claims to that of other creditors. After repaying such senior creditors, such portfolio company may not have any remaining assets to use for repaying its obligation to us. We may also be subject to lender liability claims for actions taken by us with respect to a borrower’s business or in instances in which we exercised control over the borrower as a result of actions taken in rendering any managerial assistance. Furthermore, in the case of debt ranking equally with debt securities in which we invest, we would have to share on an equal basis any distributions with other creditors holding such debt in the event of an insolvency, liquidation, dissolution, reorganization, or bankruptcy of a portfolio company.

Our portfolio is concentrated in a limited number of companies and industries, which subjects us to an increased risk of significant loss if any one of these companies does not repay us or if the industries experience downturns.

As of March 31, 2021, we had investments in 28 portfolio companies, the five largest of which included Pioneer Square, Counsel Press, Old World, J.R. Hobbs, and Bassett Creek, and comprised $233.9 million, or 36.9%, of our total investment portfolio, at fair value. A consequence of a limited number of investments is that the aggregate returns we realize may be substantially adversely affected by the unfavorable performance of a small

 

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number of such investments or a substantial write-down of any one investment, including the potential impact of the COVID-19 pandemic (or similar future public health emergencies). Beyond our regulatory and income tax diversification requirements, as well as Credit Facility requirements, we do not have fixed guidelines for industry concentration and our investments could potentially be concentrated in relatively few industries. In addition, while we do not intend to invest 25% or more of our total assets in a particular industry or group of industries at the time of investment, it is possible that as the values of our portfolio companies change, one industry or a group of industries may comprise in excess of 25% of the value of our total assets. A downturn in a particular industry in which we have invested a significant portion of our total assets could have a materially adverse effect on us. As of March 31, 2021, our largest industry concentration was in Diversified/Conglomerate Services, representing 41.3% of our total investments, at fair value.

Our investments are typically long-term and will require several years to realize liquidation events.

Since we generally make five year term loans and hold our loans and equity positions until the loans mature and/or we exit the investment, investors should not expect realization events, if any, to occur over the near term. In addition, we expect that any equity investments may require several years to appreciate in value and we cannot give any assurance that such appreciation will occur or ultimately be realized.

The disposition of our investments may result in contingent liabilities.

Currently, all but one of our investments involve private securities. In connection with the disposition of an investment in private securities, we may be required to make representations about the business and financial affairs of the underlying portfolio company typical of those made in connection with the sale of a business. We may also be required to indemnify the purchasers of such investment to the extent that any such representations turn out to be inaccurate or with respect to certain potential liabilities. These arrangements may result in contingent liabilities that may ultimately yield funding obligations that must be satisfied through our return of certain distributions previously made to us.

Portfolio company-related litigation or other litigation or claims against us or our personnel could result in costs, including defense costs or damages, and the diversion of management time and resources.

In the course of investing in and often providing significant managerial assistance to certain of our portfolio companies, certain persons employed by the Adviser sometimes serve as directors on the boards of such companies. To the extent that litigation arises out of our investments in these companies or otherwise, even if meritless, we or such employees may be named as defendants in such litigation, which could result in additional costs, including defense costs, and the diversion of management time and resources. We may be unable to accurately estimate our exposure to litigation risk if we record balance sheet reserves for probable loss contingencies. As a result, any reserves we establish to cover any settlements or judgments may not be sufficient to cover our actual financial exposure, which may have a material impact on our results of operations, financial condition, or cash flows.

While we believe we would have valid defenses to potential claims brought due to our investment in any portfolio company, and will defend any such claims vigorously, we may nevertheless expend significant amounts of money in defense costs and expenses. Further, if we enter into settlements or suffer an adverse outcome in any litigation, we could be required to pay significant amounts. In addition, if any of our portfolio companies become subject to direct or indirect claims or other obligations, such as defense costs or damages in litigation or settlement, our investment in such companies could diminish in value and we could suffer indirect losses. Further, these matters could cause us to expend significant management time and effort in connection with assessment and defense of any claims. No range of potential expenses, costs or damages in connection with these matters can be estimated at this time.

 

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Any unrealized depreciation we experience on our investment portfolio may be an indication of future realized losses, which could reduce any gains available for distribution.

As a BDC, we are required to carry our investments at market value or, if no market value is ascertainable, at fair value as determined in good faith by or under the direction of our Board of Directors. We will record decreases in the market values or fair values of our investments as unrealized depreciation. Since our inception, we have, at times, incurred a cumulative net unrealized depreciation of our portfolio. Any unrealized depreciation in our investment portfolio could result in realized losses in the future and ultimately in reductions of any gains available for distribution to stockholders in future periods.

Risks Related to Our External Financing

In addition to regulatory limitations on our ability to raise capital, the Credit Facility contains various covenants which, if not complied with, could accelerate our repayment obligations under the facility, thereby materially and adversely affecting our liquidity, financial condition, results of operations, cash flows, and ability to pay distributions.

We will have a continuing need for capital to finance our investments. As of March 31, 2021, we, through our wholly-owned subsidiary, Business Investment, had $22.4 million in borrowings, at cost, outstanding under the Credit Facility, which provides for maximum borrowings of $180.0 million, with a revolving period end date of February 29, 2024 (the “Revolving Period End Date”). The Credit Facility permits us to fund additional loans and investments as long as we are within the conditions and covenants set forth in the credit agreement. Among other things, the Credit Facility contains covenants that require Business Investment to maintain its status as a separate legal entity, prohibit certain significant corporate transactions (such as mergers, consolidations, liquidations or dissolutions) and restrict certain material changes to our credit and collection policy without the lenders’ consent. The Credit Facility also generally seeks to restrict distributions to stockholders to the sum of (i) our net investment income, (ii) net capital gains, and (iii) amounts deemed by the Company to be considered as having been paid during the prior fiscal year in accordance with Section 855(a) of the Code. Loans eligible to be pledged as collateral are subject to certain limitations, including, among other things, restrictions on geographic concentrations, industry concentrations, loan size, payment frequency and status, average life, portfolio company leverage, and lien property. The Credit Facility also requires Business Investment to comply with other financial and operational covenants, which obligate Business Investment to, among other things, maintain certain financial ratios, including asset and interest coverage and a minimum number of obligors in the borrowing base. Additionally, the Credit Facility contains a performance guarantee that requires the Company to maintain (i) a minimum net worth (defined in the Credit Facility to include our mandatorily redeemable term preferred stock) of the greater of $210.0 million or $210.0 million plus 50% of all equity and subordinated debt raised minus 50% of any equity or subordinated debt redeemed or retired after November 16, 2016, which equated to $266.2 million as of March 31, 2021, (ii) asset coverage with respect to senior securities representing indebtedness of at least 150% (or such percentage as may be set forth in Section 18 of the 1940 Act, as modified by Section 61 of the 1940 Act); and (iii) our status as a BDC under the 1940 Act and as a RIC under the Code. As of March 31, 2021, and as defined in the performance guaranty of the Credit Facility, we had a net worth of $597.1 million, asset coverage on our senior securities representing indebtedness of 398.0%, calculated in accordance with the requirements of Sections 18 and 61 of the 1940 Act, and an active status as a BDC and RIC. As of March 31, 2021, we were in compliance with all covenants under the Credit Facility; however, our continued compliance depends on many factors, some of which are beyond our control.

Any unrealized depreciation in our portfolio may increase in future periods and threaten our ability to comply with the minimum net worth covenant and other covenants under the Credit Facility. Our failure to satisfy these covenants could result in foreclosure by our lenders, which would accelerate our repayment obligations under the facility and thereby have a material adverse effect on our business, liquidity, financial condition, results of operations, cash flows, and ability to pay distributions to our stockholders.

 

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Any inability to renew, extend or replace the Credit Facility on terms favorable to us, or at all, could adversely impact our liquidity and ability to fund new investments or maintain distributions to our stockholders.

If the Credit Facility is not renewed or extended by the Revolving Period End Date, all principal and interest will be due and payable on February 28, 2026 (two years after the Revolving Period End Date). Subject to certain terms and conditions, the Credit Facility may be expanded to a total of $300.0 million through additional commitments of existing or new lenders. However, if such lenders are unwilling to provide additional commitments under the terms of the Credit Facility, we will be unable to expand the Credit Facility and thus will continue to have limited availability to finance new investments under the Credit Facility. There can be no guaranty that we will be able to renew, extend or replace the Credit Facility upon its Revolving Period End Date on terms that are favorable to us, if at all. Our ability to expand the Credit Facility, and to obtain replacement financing at or before the time of its Revolving Period End Date, will be constrained by then current economic conditions affecting the credit markets. In the event that we are not able to expand the Credit Facility, or to renew, extend or refinance the Credit Facility by the Revolving Period End Date, this could have a material adverse effect on our liquidity and ability to fund new investments, our ability to make distributions to our stockholders and our ability to qualify as a RIC under the Code.

If we are unable to secure replacement financing, we may be forced to sell certain assets on disadvantageous terms, which may result in realized losses, and such realized losses could materially exceed the amount of any unrealized depreciation on these assets as of our most recent balance sheet date, which would have a material adverse effect on our results of operations. Such circumstances would also increase the likelihood that we would be required to redeem some or all of our outstanding mandatorily redeemable preferred stock, which could potentially require us to sell more assets. In addition to selling assets, or as an alternative, we may issue common equity to repay amounts outstanding under the Credit Facility. Depending upon the trading prices of our common stock (and with the approval of our independent directors and stockholders), such an equity offering may have a dilutive impact on our existing stockholders’ interest in our earnings, assets and voting interest in us. If we are able to renew, extend or refinance the Credit Facility prior to maturity, renewal, extension or refinancing, it could potentially result in significantly higher interest rates and related charges and may impose significant restrictions on the use of borrowed funds to fund investments or maintain distributions to stockholders.

Because we expect to distribute substantially all of our Investment Company Taxable Income, at least 90%, on an annual basis, our business plan is dependent upon external financing, which is constrained by the limitations of the 1940 Act.

There can be no assurance that we will be able to raise capital through issuing equity in the near future. Our business requires a substantial amount of cash to operate and grow. We may acquire such additional capital from the following sources:

 

   

Senior Securities: We may issue senior securities representing indebtedness (including borrowings under the Credit Facility and our 2026 Notes) and senior securities that are stock (including our Series E Term Preferred Stock), up to the maximum amount permitted by the 1940 Act. The 1940 Act currently permits us, as a BDC, to issue senior securities representing indebtedness and senior securities which are stock, in amounts such that our asset coverage, as defined in Section 18(h) of the 1940 Act, is at least 150% on each such senior security immediately after each issuance of each such senior security. As a result of issuing senior securities (in whatever form), we will be exposed to the risks associated with leverage. Although borrowing money for investments increases the potential for gain, it also increases the risk of a loss. A decrease in the value of our investments will have a greater impact on the value of our common stock to the extent that we have borrowed money to make investments. There is a possibility that the costs of borrowing could exceed the income we receive on the investments we make with such borrowed funds. In addition, our ability to pay distributions, issue senior securities or repurchase shares of our common stock would be restricted if the asset coverage on each of our senior securities is not at least 150%. If the aggregate fair value of our assets declines, we might be unable to satisfy that 150% requirement. To satisfy the 150% asset coverage requirement in

 

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the event that we are seeking to pay a distribution, we might either have to (i) liquidate a portion of our loan portfolio to repay a portion of our indebtedness or (ii) issue common stock. This may occur at a time when a sale of a portfolio asset may be disadvantageous, or when we have limited access to capital markets on agreeable terms. In addition, any amounts that we use to service our indebtedness, pay dividends on our preferred stock or for offering costs will not be available for distributions to common stockholders. Pursuant to Section 61(a)(3) of the 1940 Act, we are permitted, under specified conditions, to issue multiple classes of senior securities representing indebtedness. However, pursuant to Section 18(c) of the 1940 Act, we are permitted to issue only one class of senior securities that are stock.

 

   

Common and Convertible Preferred Stock: Because we are constrained in our ability to issue debt or senior securities for the reasons given above, we may at times be dependent on the issuance of equity as a financing source. If we raise additional funds by issuing more common stock, the percentage ownership of our common stockholders at the time of the issuance would decrease and our existing common stockholders may experience dilution. In addition, under the 1940 Act, we will generally not be able to issue additional shares of our common stock at a price below NAV per common share to purchasers, other than to our existing common stockholders through a rights offering, without first obtaining the approval of our stockholders and our independent directors. If we were to sell shares of our common stock below our then current NAV per common share, as we did at times during March 2018 under the at-the-market program, and in other offerings in May 2017, March 2015, and October 2012, such sales would result in an immediate dilution to the NAV per common share. This dilution would occur as a result of the sale of common shares at a price below the then current NAV per share of our common stock and a proportionately greater decrease in a common stockholder’s interest in our earnings and assets and voting percentage than the increase in our assets resulting from such issuance. For example, if we issue and sell an additional 10% of our common stock at a 5% discount from NAV, a common stockholder who does not participate in that offering for its proportionate interest will suffer NAV dilution of up to 0.5% or $5 per $1,000 of NAV. This imposes constraints on our ability to raise capital when our common stock is trading below NAV per common share, as it generally has for the last several years. As noted above, the 1940 Act prohibits the issuance of multiple classes of senior securities that are stock. As a result, we would be prohibited from issuing convertible preferred stock to the extent that such a security was deemed to be a separate class of stock from our outstanding mandatorily redeemable preferred stock.

We financed certain of our investments with borrowed money and capital from the issuance of senior securities, which will magnify the potential for gain or loss on amounts invested and may increase the risk of investing in us.

The use of leverage, including through the issuance of senior securities that are debt or stock, magnifies the potential for gain or loss on amounts invested. We have incurred leverage in the past and currently incur leverage through the Credit Facility, the 2026 Notes and shares of our mandatorily redeemable preferred stock and, from time to time, may incur additional leverage to the extent permitted under the 1940 Act. The use of leverage is generally considered a speculative investment technique and increases the risks associated with investing in our securities. In the future, we may borrow from, and issue senior securities to, banks and other lenders. Holders of these senior securities will have fixed dollar claims on our assets that are superior to the claims of our common stockholders, and we would expect such holders to seek recovery against our assets in the event of a default.

 

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The following table illustrates the effect of leverage on returns from an investment in our common stock assuming various annual returns on our portfolio, net of expenses. The calculations in the table below are hypothetical and actual returns may be higher or lower than those appearing in the table below.

 

     Assumed Return on Our Portfolio
(Net of Expenses)
 
       (10)%         (5)%         0%         5%         10%    

Corresponding return to common stockholder(A)

     (20.38 )%      (11.96 )%      (3.54 )%      4.88     13.30

 

(A)

The hypothetical return to common stockholders is calculated by multiplying our total assets as of March 31, 2021 by the assumed rates of return and subtracting all interest on our debt and dividends on our mandatorily redeemable preferred stock expected to be paid or declared during the twelve months following March 31, 2021, and then dividing the resulting difference by our total net assets attributable to common stock as of March 31, 2021. Based on $643.7 million in total assets, $22.4 million in borrowings outstanding on the Credit Facility, at cost, 127.9 million of 2026 Notes, at cost, $5.1 million in a secured borrowing, $ $94.4 million in aggregate liquidation preference of Series E Term Preferred Stock, and $382.4 million in net assets as of March 31, 2021.

Based on an aggregate outstanding indebtedness of $155.4 million, at cost, as of March 31, 2021, the effective annual cash interest rate of 4.8% as of that date, and aggregate liquidation preference of our mandatorily redeemable preferred stock of $94.4 million with a weighted-average dividend rate of 6.4%, our investment portfolio at fair value would have to produce an annual return of at least 2.1% to cover annual interest payments on the outstanding debt and dividends on our mandatorily redeemable preferred stock.

Risks Related to Our Regulation and Structure

We will be subject to corporate-level tax if we are unable to satisfy the Code requirements for RIC qualification.

To maintain our qualification as a RIC, we must maintain our status as a BDC and meet annual distribution, income source, and asset diversification requirements. The annual distribution requirement is satisfied if we distribute at least 90% of our Investment Company Taxable Income to our stockholders on an annual basis. Because we use leverage, we are subject to certain asset coverage ratio requirements under the 1940 Act and could, under certain circumstances, be restricted from making distributions necessary to qualify as a RIC. Warrants we may receive with respect to debt investments generally create original issue discount (“OID”), which we must recognize as ordinary income over the term of the debt investment. Similarly, PIK interest which is accrued generally over the term of the debt investment but not paid in cash, is recognized as ordinary income. Both OID and PIK interest will increase the amounts we are required to distribute to maintain our RIC status. Because such OIDs and PIK interest will not produce distributable cash for us at the same time as we are required to make distributions, we will need to use cash from other sources to satisfy such distribution requirements. As of March 31, 2021, we did not have investments with OID or a PIK feature. Additionally, we must meet asset diversification and income source requirements at the end of each calendar quarter. If we fail to meet these tests, we may need to quickly dispose of certain investments to prevent the loss of RIC status. Since most of our investments will be illiquid, such dispositions, if even possible, may not be made at prices advantageous to us and may result in substantial losses. If we fail to qualify as a RIC as of a calendar quarter or annually for any reason and become fully subject to U.S. federal corporate income tax, the resulting corporate taxes could substantially reduce our net assets, the amount of income available for distribution, and the actual amount distributed. Such a failure would have a material adverse effect on us and our common stock. Refer to “Business — Material U.S. Federal Income Tax Considerations — RIC Status” for additional information regarding asset coverage ratio and RIC requirements.

Some of our debt investments may include success fees that would generally generate payments to us upon a change of control. Because the satisfaction of these success fees, and the ultimate payment of these fees, is uncertain and highly contingent, we generally only recognize them as income when the payment is received.

 

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Success fee amounts are characterized as ordinary income for tax purposes and, as a result, we are required to distribute such amounts to our stockholders to maintain our RIC status.

If we do not invest a sufficient portion of our assets in “qualifying assets,” we could fail to qualify as a BDC under the 1940 Act or be precluded from investing according to our current business strategy.

As a BDC, we may not acquire any assets other than “qualifying assets” unless, at the time of and after giving effect to such acquisition, at least 70% of our total assets, exclusive of Operating Assets, are qualifying assets, as defined in Section 55(a) of the 1940 Act.

We believe that most of the investments that we may acquire in the future will constitute qualifying assets. However, we may be precluded from investing in what we believe to be attractive investments if such investments are not qualifying assets for purposes of the 1940 Act. If we do not invest a sufficient portion of our assets in qualifying assets, we could violate the 1940 Act provisions applicable to BDCs. As a result of such violation, specific rules under the 1940 Act could prevent us, for example, from making follow-on investments in existing portfolio companies (which could result in the dilution of our position) or could require us to dispose of investments at inappropriate times to come into compliance with the 1940 Act. If we need to dispose of such investments quickly, it could be difficult to dispose of such investments on favorable terms. We may not be able to find a buyer for such investments and, even if we do find a buyer, we may have to sell the investments at a substantial loss. Any such outcomes would have a material adverse effect on our business, financial condition, results of operations and cash flows.

If we do not maintain our status as a BDC, we would be subject to regulation as a registered closed-end investment company under the 1940 Act. As a registered closed-end investment company, we would be subject to substantially more regulatory restrictions under the 1940 Act, which would significantly decrease our operating flexibility. Refer to “Business — Regulation as a BDC — Qualifying Assets” for additional information regarding qualifying assets.

Provisions of the Delaware General Corporation Law and of our certificate of incorporation and bylaws could restrict a change in control and have an adverse impact on the price of our common stock.

We are subject to provisions of the Delaware General Corporation Law that, in general, prohibit any business combination with a beneficial owner of 15% or more of our common stock for three years unless the holder’s acquisition of our stock was either approved in advance by our Board of Directors or ratified by our Board of Directors and stockholders owning two-thirds of our outstanding stock not owned by the acquiring holder. Although we believe these provisions collectively provide for an opportunity to receive higher bids by requiring potential acquirers to negotiate with our Board of Directors, they would apply even if the offer may be considered beneficial by some stockholders.

We have also adopted other measures that may make it difficult for a third party to obtain control of us, including provisions of our certificate of incorporation classifying our Board of Directors in three classes serving staggered three-year terms, and provisions of our certificate of incorporation authorizing our Board of Directors to induce the issuance of additional shares of our stock. These provisions, as well as other provisions of our certificate of incorporation and bylaws, may delay, defer, or prevent a transaction or a change in control that might otherwise be in the best interests of our stockholders.

 

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We may not be permitted to declare a dividend or make any distribution to stockholders or repurchase shares until such time as we satisfy the asset coverage tests under the provisions of the 1940 Act that apply to BDCs. As a BDC, we have the ability to issue senior securities only in amounts such that our asset coverage, as defined in the 1940 Act, equals at least 150% after each issuance of senior securities. If the value of our assets declines, we may be unable to satisfy this test. If that happens, we may be required to sell a portion of our investments and, depending on the nature of our leverage, repay a portion of our debt at a time when such sales and/or repayments may be disadvantageous.

Regulations governing our operation as a BDC and RIC will affect our ability to raise, and the way in which we raise, additional capital or borrow for investment purposes, which may have a negative effect on our growth. As a result of the annual distribution requirement to qualify as a RIC, we may need to periodically access the capital markets to raise cash to fund new investments. We may issue senior securities representing indebtedness, including borrowing money from banks or other financial institutions, or senior securities that are stock, such as our Series E Term Preferred Stock, only in amounts such that our asset coverage, as defined in the 1940 Act, equals at least 150% after each such incurrence or issuance. Further, we may not be permitted to declare a dividend or make any distribution to our outstanding stockholders or repurchase shares until such time as we satisfy this test. Our ability to issue different types of securities is also limited. Compliance with these requirements may unfavorably limit our investment opportunities and reduce our ability in comparison to other companies to profit from favorable spreads between the rates at which we can borrow and the rates at which we can lend. As a BDC, therefore, we intend to continuously issue equity at a rate more frequent than our privately owned competitors, which may lead to greater stockholder dilution. We have incurred leverage to generate capital to make additional investments. If the value of our assets declines, we may be unable to satisfy the asset coverage test under the 1940 Act, which could prohibit us from paying distributions and could prevent us from qualifying as a RIC. If we cannot satisfy the asset coverage test, we may be required to sell a portion of our investments and, depending on the nature of our debt financing, repay a portion of our indebtedness at a time when such sales and repayments may be disadvantageous. Such events, if they were to occur, could have a significant adverse effect on our business, financial condition, results of operations, and cash flows.

Risks Related to Our External Management

We are dependent upon our key management personnel and the key management personnel of the Adviser, particularly David Gladstone, David Dullum and Terry Lee Brubaker, and on the continued operations of the Adviser, for our future success.

We have no employees. Our chief executive officer, chief operating officer, chief financial officer and treasurer, chief valuation officer, and the employees of the Adviser do not spend all of their time managing our activities and our investment portfolio. We are particularly dependent upon David Gladstone, David Dullum and Terry Lee Brubaker for their experience, skills, and networks. Our executive officers and the employees of the Adviser allocate some, and in some cases a material portion, of their time to businesses and activities that are not related to our business. We have no separate facilities and are completely reliant on the Adviser, which has significant discretion as to the implementation and execution of our business strategies and risk management practices. We are subject to the risk of discontinuation of the Adviser’s operations or termination of the Advisory Agreement and the risk that, upon such event, no suitable replacement will be found. We believe that our success depends to a significant extent upon the Adviser and that discontinuation of its operations or the loss of its key management personnel could have a material adverse effect on our ability to achieve our investment objectives.

Our success depends on the Adviser’s ability to attract and retain qualified personnel in a competitive environment.

The Adviser experiences competition in attracting and retaining qualified personnel, particularly investment professionals and senior executives, and we may be unable to maintain or grow our business if we cannot attract and retain such personnel. The Adviser’s ability to attract and retain personnel with the requisite credentials, experience and skills depends on several factors including, its ability to offer competitive wages, benefits and

 

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professional growth opportunities. The Adviser competes with investment funds (such as private equity funds and mezzanine funds) and traditional financial services companies for qualified personnel, many of which have greater resources than us. Searches for qualified personnel may divert management’s time from the operation of our business. Strain on the existing personnel resources of the Adviser, in the event that it is unable to attract experienced investment professionals and senior executives, could have a material adverse effect on our business.

The Adviser can resign on 60 days’ notice, and we may not be able to find a suitable replacement within that time, resulting in a disruption in our operations that could adversely affect our financial condition, business and results of operations.

The Adviser has the right to resign under the Advisory Agreement at any time upon not less than 60 days’ written notice, whether we have found a replacement or not. If the Adviser resigns, we may not be able to find a new investment adviser or hire internal management with similar expertise and ability to provide the same or equivalent services on acceptable terms within 60 days, or at all. If we are unable to do so quickly, our operations are likely to experience a disruption, our financial condition, business and results of operations as well as our ability to pay distributions are likely to be adversely affected and the market price of our common stock may decline. In addition, the coordination of our internal management and investment activities is likely to suffer if we are unable to identify and reach an agreement with a single institution or group of executives having the expertise possessed by the Adviser and its affiliates. Even if we are able to retain comparable management, whether internal or external, the integration of such management and their lack of familiarity with our investment objectives may result in additional costs and time delays that may adversely affect our business, financial condition, results of operations and cash flows.

The Adviser’s liability is limited under the Advisory Agreement, and we are required to indemnify our investment adviser against certain liabilities, which may lead the Adviser to act in a riskier manner on our behalf than it would when acting for its own account.

The Adviser has not assumed any responsibility to us other than to render the services described in the Advisory Agreement, and it will not be responsible for any action of our Board of Directors in declining to follow the Adviser’s advice or recommendations. Pursuant to the Advisory Agreement, the Adviser and its officers, managers, partners, agents, employees, controlling persons, members and any other person or entity affiliated with the Adviser will not be liable to us for their acts under the Advisory Agreement, absent willful misfeasance, bad faith or gross negligence in the performance of their duties or by reason of the reckless disregard of their duties and obligations under the Advisory Agreement. We have agreed to indemnify, defend and protect the Adviser and its officers, managers, partners, agents, employees, controlling persons, members and any other person or entity affiliated with the Adviser with respect to all damages, liabilities, costs and expenses arising out of or otherwise based upon the performance of any of the Adviser’s duties or obligations under the Advisory Agreement or otherwise as an investment adviser for us, and not arising out of willful misfeasance, bad faith or gross negligence in the performance of their duties or by reason of the reckless disregard of their duties and obligations under the Advisory Agreement. These protections may lead the Adviser to act in a riskier manner when acting on our behalf than it would when acting for its own account.

Our incentive fee may induce the Adviser to make certain investments, including speculative investments.

The management compensation structure that has been implemented under the Advisory Agreement may cause the Adviser to invest in high-risk investments or take other investment risks. In addition to its management fee, the Adviser is entitled under the Advisory Agreement to receive incentive compensation based in part upon our achievement of specified levels of income. In evaluating investments and other management strategies, the opportunity to earn incentive compensation based on net investment income may lead the Adviser to place undue emphasis on the maximization of net investment income at the expense of other criteria, such as preservation of capital, maintaining sufficient liquidity, or management of credit risk or market risk, to achieve higher incentive compensation. Investments with higher yield potential are generally riskier or more speculative. This could result in increased risk to the value of our investment portfolio.

 

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We may be obligated to pay the Adviser incentive compensation even if we incur a net decrease in net assets.

The Advisory Agreement entitles the Adviser to incentive compensation for each fiscal quarter in an amount equal to a percentage of the excess of our net investment income for that quarter (before deducting the incentive fee) above a threshold return of 1.75% of our net assets, as adjusted, for that quarter. When calculating our incentive fee, our pre-incentive fee net investment income excludes realized losses and unrealized depreciation that we may incur in the fiscal quarter, even if such losses or depreciation result in a net decrease in net assets on our statement of operations for that quarter. Thus, we may be required to pay the Adviser incentive compensation for a fiscal quarter even if there is a decline in the value of our portfolio or we incur a net realized or unrealized loss for that quarter. For additional information on incentive compensation under the Advisory Agreement with the Adviser, see “Business — Investment Advisory and Management Agreement.”

We may be required to pay the Adviser incentive compensation on income accrued, but not yet received in cash.

The part of the incentive fee payable by us that relates to our net investment income is computed and paid on income that may include income that has been accrued but not yet received in cash, such as debt instruments with PIK interest. If a portfolio company defaults on a loan, it is possible that such accrued interest previously used in the calculation of the incentive fee will become uncollectible. Consequently, we may make incentive fee payments on income accruals that we may not collect in the future and with respect to which we do not have a clawback right against the Adviser.

The Adviser’s failure to identify and invest in securities that meet our investment criteria or perform its responsibilities under the Advisory Agreement would likely adversely affect our ability for future growth.

Our ability to achieve our investment objectives will depend on our ability to grow, which in turn will depend on the Adviser’s ability to identify and invest in securities that meet our investment criteria. Accomplishing this result on a cost-effective basis will be largely a function of the Adviser’s structuring of the investment process, its ability to provide competent and efficient services to us, and our access to financing on acceptable terms. The Adviser’s senior management team has substantial responsibilities under the Advisory Agreement. To grow, the Adviser will need to hire, train, supervise, and manage new employees successfully. Any failure to manage our future growth effectively would likely have a material adverse effect on our business, financial condition, results of operations, and cash flows.

There are significant potential conflicts of interest, including with the Adviser, which could impact our investment returns.

Our executive officers and directors, and the officers and directors of the Adviser, serve or may serve as officers, directors, or principals of entities that operate in the same or a related line of business as we do or of investment funds managed by our affiliates. Accordingly, they may have obligations to investors in those entities, the fulfillment of which might not be in our or our stockholders’ best interests. For example, Mr. Gladstone, our chairman and chief executive officer, is the chairman of the board and chief executive officer of the Adviser and Administrator, and the Affiliated Public Funds. In addition, Mr. Brubaker, our vice chairman and chief operating officer, is the vice chairman and chief operating officer of the Adviser and Administrator, and the Affiliated Public Funds. Mr. Dullum, our president, is an executive managing director of the Adviser. While portfolio managers and the officers and other employees of the Adviser will devote as much time to the management of us as appropriate to enable the Adviser to perform its duties in accordance with the Advisory Agreement, the portfolio managers and other of the Adviser’s officers may have conflicts in allocating their time and services among us, on the one hand, and other investment vehicles managed by the Adviser, on the other hand. These activities could be viewed as creating a conflict of interest insofar as the time and effort of the portfolio managers and the officers and employees of the Adviser will not be devoted exclusively to our business but will instead be allocated between our business and the management of these other investment vehicles. Moreover, the Adviser may establish or sponsor other investment vehicles which from time to time may have potentially overlapping

 

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investment objectives with ours and accordingly may invest in, whether principally or secondarily, asset classes we target. While the Adviser generally has broad authority to make investments on behalf of the investment vehicles that it advises, the Adviser has adopted investment allocation procedures to address these potential conflicts and intends to direct investment opportunities to the Company or the Affiliated Public Fund with the investment strategy that most closely fits the investment opportunity. Nevertheless, the management of the Adviser may face conflicts in the allocation of investment opportunities to other entities it manages. As a result, it is possible that we may not be given the opportunity to participate in certain investments made by other funds managed by the Adviser.

In certain circumstances, we may make investments in a portfolio company in which one of our affiliates has or will have an investment, subject to satisfaction of any regulatory restrictions and, where required, the prior approval of our Board of Directors. As of March 31, 2021, our Board of Directors has approved the following types of transactions:

 

   

Our affiliate, Gladstone Commercial, may, under certain circumstances, lease property to portfolio companies that we do not control. We may pursue such transactions only if (i) the portfolio company is not controlled by us or any of our affiliates, (ii) the portfolio company satisfies the tenant underwriting criteria of Gladstone Commercial, and (iii) the transaction is approved by a majority of our independent directors and a majority of the independent directors of Gladstone Commercial. We expect that any such negotiations between Gladstone Commercial and our portfolio companies would result in lease terms consistent with the terms that the portfolio companies would be likely to receive were they not portfolio companies of ours.

 

   

We may invest simultaneously with our affiliate Gladstone Capital in senior loans in the broadly syndicated market whereby neither we nor any affiliate has the ability to dictate the terms of the loans.

 

   

Pursuant to the Co-Investment Order, we may co-invest, under certain circumstances, with certain of our affiliates, including Gladstone Capital and any future BDC or closed-end management investment company that is advised (or sub-advised if it controls the fund) by the Adviser, or any combination of the foregoing subject to the conditions in the Co-Investment Order.

Certain of our officers, who are also officers of the Adviser, may from time to time serve as directors of certain of our portfolio companies. If an officer serves in such capacity for one of our portfolio companies, such officer will owe fiduciary duties to stockholders of the portfolio company, which duties may from time to time conflict with the interests of our stockholders.

In the course of our investing activities, we will pay management and incentive fees to the Adviser and will reimburse the Administrator for certain expenses it incurs. As a result, investors in our common stock will invest on a “gross” basis and receive distributions on a “net” basis after expenses, resulting in, among other things, a lower rate of return than one might achieve through our investors themselves making direct investments. As a result of this arrangement, there may be times when the management team of the Adviser has interests that differ from those of our stockholders, giving rise to a conflict. In addition, as a BDC, we make available significant managerial assistance to our portfolio companies and provide other services to such portfolio companies. While neither we nor the Adviser currently receive fees in connection with managerial assistance, the Adviser and Gladstone Securities have, at various times, provided other services to certain of our portfolio companies and received fees for services other than managerial assistance as discussed in “Business – Ongoing Management of Investment Portfolio Company Relationships – Managerial Assistance and Services.”

The Adviser is not obligated to provide credits of the base management fee or incentive fees, which could negatively impact our earnings and our ability to maintain our current level of distributions to our stockholders.

The Advisory Agreement provides for a base management fee, based on our gross assets, and an incentive fee, that is based on our income and capital gains. Our Board of Directors has accepted in the past and may accept in

 

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the future non-contractual, unconditional, and irrevocable credits to reduce the annual 2.0% base management fee or the incentive fee, on a quarterly or annual basis. Any fees credited may not be recouped by the Adviser in the future. However, the Adviser is not required to issue these or other credits of fees under the Advisory Agreement. If the Adviser does not issue these credits in the future, it could negatively impact our earnings and may compromise our ability to maintain our current level of distributions to our stockholders, which could have a material adverse impact on our common stock price.

Our business model is dependent upon developing and sustaining strong referral relationships with investment bankers, business brokers and other intermediaries and any change in our referral relationships may impact our business plan.

We are dependent upon informal relationships with investment bankers, business brokers and traditional lending institutions to provide us with deal flow. If we fail to maintain our relationship with such funds or institutions, or if we fail to establish strong referral relationships with other funds, we will not be able to grow our portfolio of investments and fully execute our business plan.

Our base management fee may induce the Adviser to incur leverage.

The fact that our base management fee is payable based upon our gross assets, which would include any investments made with proceeds of borrowings, may encourage the Adviser to use leverage to make additional investments. Under certain circumstances, the use of increased leverage may increase the likelihood of default, which would disfavor holders of our securities. Given the subjective nature of the investment decisions made by the Adviser on our behalf, we will not be able to monitor this potential conflict of interest.

Risks Related to an Investment in Our Securities

There is a risk that you may not receive distributions or that distributions may not grow over time.

Our current intention is to distribute up to 100% of our Investment Company Taxable Income to our stockholders by paying monthly distributions. We may retain some or all of our net realized long-term capital gains, if any, and designate them as deemed distributions to supplement our equity capital and support the growth of our portfolio, although our Board of Directors may determine to distribute these net realized long-term capital gains to our stockholders in cash. In addition, the Credit Facility restricts the amount of distributions we are permitted to make annually. We cannot assure investors that we will achieve investment results or maintain a tax status that will allow or require any specified level of cash distributions.

Investing in our securities may involve an above average degree of risk.

The investments we make in accordance with our investment objectives may result in a higher amount of risk than alternative investment options and a higher risk of volatility or loss of principal. Our investments in portfolio companies may be highly speculative, and therefore, an investment in our securities may not be suitable for someone with lower risk tolerance.

Distributions to our common stockholders have included and may in the future include a return of capital.

Our Board of Directors declares monthly common distributions each quarter based on estimates of Investment Company Taxable Income and capital gains for each fiscal year, which may differ, and in the past have differed, from actual results. Because our common distributions are based on estimates of Investment Company Taxable Income and capital gains that may differ from actual results, future common distributions payable to our common stockholders may include a return of capital. To the extent that we distribute amounts that exceed our accumulated earnings and profits, these distributions constitute a return of capital to the extent of the common stockholder’s adjusted tax basis in its shares of our common stock. A return of capital represents a return of a

 

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common stockholder’s original investment in shares of our common stock and should not be confused with a distribution from earnings and profits. Although return of capital distributions may not be taxable, such distributions may increase an investor’s tax liability for capital gains upon the sale of our common stock by reducing the investor’s tax basis in its shares of our common stock. Such returns of capital reduce our asset base and also adversely impact our ability to raise debt capital as a result of the leverage restrictions under the 1940 Act, which could have a material adverse impact on our ability to make new investments.

Common shares of closed-end investment companies frequently trade at a discount to NAV.

Shares of closed-end investment companies frequently trade at a discount to NAV per common share. Since our inception, our common stock has at times traded above NAV per share and at times below NAV per share. During the past year, our common stock has at times traded significantly below NAV per share. This characteristic of shares of closed-end investment companies is separate and distinct from the risk that our NAV per share will decline. As with any stock, the price of our common shares will fluctuate with market conditions and other factors. If common shares are sold, the price received may be more or less than the original investment. Whether investors will realize gains or losses upon the sale of our shares will not depend directly upon our NAV, but will depend upon the market price of the shares at the time of sale. Since the market price of our common shares will be affected by such factors as the relative demand for and supply of the shares in the market, general market and economic conditions and other factors beyond our control, we cannot predict whether the common shares will trade at, below or above our NAV per share.

Under the 1940 Act, we are generally not able to issue additional shares of our common stock at a price below NAV per share to purchasers other than our existing common stockholders through a rights offering without first obtaining the approval of our stockholders and our independent directors. Additionally, at times when our common stock is trading below its NAV per share, our dividend yield may exceed the weighted-average returns that we would expect to realize on new investments that would be made with the proceeds from the sale of such stock, making it unlikely that we would determine to issue additional common shares in such circumstances. Thus, for as long as our common stock may trade below NAV per share, we generally will be subject to significant constraints on our ability to raise capital through the issuance of common stock. Additionally, an extended period of time in which we are unable to raise capital may restrict our ability to grow and adversely impact our ability to increase or maintain our distributions.

Common stockholders may incur dilution if we sell shares of our common stock in one or more offerings at prices below the then current NAV per share.

At our most recent annual meeting of stockholders on August 20, 2020, our stockholders approved a proposal designed to allow us to sell shares of our common stock below the then current NAV per share in one or more offerings for a period of one year from the date of such approval, subject to certain conditions (including, that the number of common shares issued and sold pursuant to such authority does not exceed 25% of our then outstanding common stock immediately prior to each such sale).    

With this and similar previous approvals from our stockholders, we exercised this right with Board of Director approval in March and April 2018 for certain sales under the at-the-market program (Refer to “Liquidity and Capital Resources — Equity — Common Stock” for further details of sales under our at-the-market program.). With prior approval from our stockholders and our Board of Directors, we also issued shares of common stock below our then current NAV per share in public offerings in May and June of 2017, March and April of 2015, and in October 2012 with a net dilutive effect of such issuances, net of discounts, commissions and offering costs borne by us, of $0.07, $0.29 and $0.39, respectively, per share of common stock.

At the upcoming annual stockholders meeting to be held in August 2021, we expect that our stockholders will again be asked to vote in favor of renewing this proposal for another year. During the past year, our common stock has frequently traded, and at times significantly, below NAV per share. Any decision to sell shares of our

 

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common stock below the then current NAV per share of our common stock would be subject to the determination by our Board of Directors that such issuance is in our and our stockholders’ best interests.

If we were to sell shares of our common stock below NAV per share, such sales would result in an immediate dilution to the NAV per share. This dilution would occur as a result of the sale of shares at a price below the then current NAV per share of our common stock and a proportionately greater decrease in a common stockholder’s interest in our earnings and assets and voting interest in us than the increase in our assets resulting from such issuance. The greater the difference between the sale price and the NAV per share at the time of the offering, the more significant the dilutive impact would be. Because the number of shares of common stock that could be so issued and the timing of any issuance is not currently known, the actual dilutive effect, if any, cannot be currently predicted. However, if, for example, we sold an additional 10% of our common stock at a 5% discount from NAV, an existing common stockholder who did not participate in that offering for its proportionate interest would suffer NAV dilution of up to 0.5% or $5 per $1,000 of NAV.

If we fail to pay dividends on our mandatorily redeemable preferred stock for two years, the holders of our preferred stock will be entitled to elect a majority of our directors.

The terms of our series of mandatorily redeemable preferred stock provide for annual dividends of approximately $1.59 per outstanding share of our Series E Term Preferred Stock. In accordance with the 1940 Act and the terms of our series of mandatorily redeemable term preferred stock, if dividends thereon are unpaid in an amount equal to at least two years of dividends, the holders of our preferred stock will be entitled to elect a majority of our Board of Directors.

Holders of our debt or mandatorily redeemable preferred stock have liquidation and other rights that are senior to the rights of the holders of our common stock. Any future issuance of debt or additional shares of preferred stock could adversely affect the market price of our common stock.

We may in the future raise additional capital through the issuance of debt or additional shares of preferred stock. Our Board of Directors is authorized to issue one or more classes or series of preferred stock (so long as such stock is issued in parity with our outstanding shares of mandatorily redeemable preferred stock in accordance with Section 18(c) of the 1940 Act) from time to time without any action on the part of the stockholders, as it has done with respect to our outstanding series of mandatorily redeemable preferred stock. Our Board of Directors also has the power, without stockholder approval, to set the terms of any such classes or series of preferred stock that may be issued, including voting rights, dividend rights and preferences over our common stock with respect to dividends or upon our dissolution, winding-up or liquidation, and other terms. Holders of our outstanding mandatorily redeemable preferred stock have, and holders of any future debt securities will have, preference over our common stock with respect to the payment of dividends and upon our liquidation, dissolution or winding-up. This will reduce the amount of our assets, if any, available for distribution to holders of our common stock. The decision to issue debt or preferred stock is dependent on market conditions and other factors that may be beyond our control. As a result, we cannot predict or estimate the amount, timing or nature of our future issuances. Any such future issuance could reduce the market price of our common stock.

Additionally, if we issue additional preferred stock with voting rights that dilute the voting power of our common stock, the rights of holders of our common stock or the market price of our common stock could be adversely affected.

Risks Related to Our Mandatorily Redeemable Preferred Stock

An active trading market for the mandatorily redeemable preferred stock may not exist or continue, which could adversely affect the market price of the mandatorily redeemable preferred stock or a holder’s ability to sell its shares.

Our Series E Term Preferred Stock is listed on Nasdaq. However, we cannot provide any assurances that an active trading market for the mandatorily redeemable preferred stock will exist in the future or that stockholders

 

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will be able to sell their shares of mandatorily redeemable preferred stock. Even if an active trading market does exist, shares of the mandatorily redeemable preferred stock may trade at a discount from the liquidation preference for such shares depending on prevailing interest rates, the market for similar securities, general economic conditions, our issuance of debt or preferred equity securities and our financial condition, results of operation and prospects. To the extent an active trading market does not exist, the liquidity and trading price for shares of the mandatorily redeemable preferred stock may be harmed. Accordingly, holders may be required to bear the financial risk of an investment in the mandatorily redeemable preferred stock for an indefinite period of time.

An investment in preferred stock with a fixed interest rate bears interest rate risk.

Our series of mandatorily redeemable preferred stock pays dividends at a fixed dividend rate. Prices of fixed income investments vary inversely with changes in market yields. The market yields on securities comparable to our mandatorily redeemable preferred stock may increase, which would likely result in a decline in the secondary market price of the mandatorily redeemable preferred stock prior to the mandatory redemption date for that series of mandatorily redeemable preferred stock.

The mandatorily redeemable preferred stock is not rated.

Our series of mandatorily redeemable preferred stock is not rated by any rating agency. Unrated securities usually trade at a discount to similar, rated securities. As a result, the series of mandatorily redeemable preferred stock may trade at prices that are lower than they might otherwise trade if rated by a rating agency.

Our mandatorily redeemable preferred stock bears a risk of early redemption by us.

We may voluntarily redeem some or all of the Series E Term Preferred Stock at any time. We also may be forced to redeem some or all of the outstanding shares of mandatorily redeemable preferred stock to meet regulatory requirements or the asset coverage requirements of such shares. We are also required to redeem all of the mandatorily redeemable preferred stock upon certain change of control transactions. Any such redemption may occur at a time that is unfavorable to holders of the mandatorily redeemable preferred stock. We may have an incentive to redeem the mandatorily redeemable preferred stock voluntarily before the mandatory redemption date for such series if market conditions allow us to issue other preferred stock or debt securities at a rate that is lower than the dividend rate on such series of mandatorily redeemable preferred stock or for other reasons. If we redeem shares of the mandatorily redeemable preferred stock before the mandatory redemption date for such series of mandatorily redeemable preferred stock, the holders of such redeemed shares face the risk that the return on an investment purchased with proceeds from such redemption may be lower than the return previously obtained from the investment in the mandatorily redeemable preferred stock.

Claims of holders of the mandatorily redeemable preferred stock will be subject to a risk of subordination relative to holders of our debt instruments.

While holders of the mandatorily redeemable preferred stock will have equal liquidation rights to the holder of any other outstanding series of our mandatorily redeemable preferred stock, such holders will be subordinated to the rights of holders of our current and any future indebtedness, including the Credit Facility and the 2026 Notes. Even though the mandatorily redeemable preferred stock is classified as a liability for purposes of GAAP and considered senior securities under the 1940 Act, the mandatorily redeemable preferred stock are not debt instruments. Therefore, dividends, distributions and other payments to holders of mandatorily redeemable preferred stock in liquidation or otherwise may be subject to prior payments due to the holders of our indebtedness. In addition, under some circumstances the 1940 Act may provide debt holders with voting rights that are superior to the voting rights of holders of the mandatorily redeemable preferred stock.

 

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Holders of the mandatorily redeemable preferred stock will bear dividend risk.

We may be unable to pay dividends on the series of mandatorily redeemable preferred stock under some circumstances. The terms of our indebtedness, including the Credit Facility and the 2026 Notes, preclude the payment of dividends in respect of equity securities, including the mandatorily redeemable preferred stock, under certain conditions.

There is a risk of delay in our redemption of the mandatorily redeemable preferred stock, and we may fail to redeem such securities as required by their terms.

We generally make investments in private companies whose securities are not traded in any public market. Substantially all of the investments we presently hold and the investments we expect to acquire in the future are, and will be, subject to legal and other restrictions on resale and will otherwise be less liquid than publicly traded securities. The illiquidity of our investments may make it difficult for us to obtain cash equal to the value at which we record our investments quickly if a need arises. If we are unable to obtain sufficient liquidity prior to the mandatory redemption date or any other date on which we are required by law or the terms of a series of mandatorily redeemable preferred stock to redeem shares of such series, we may be forced to engage in a partial redemption or to delay a required redemption. If such a partial redemption or delay were to occur, the market price of the mandatorily redeemable preferred stock might be adversely affected.

Risks Related to the 2026 Notes

The 2026 Notes are unsecured and therefore are effectively subordinated to any secured indebtedness we may incur in the future and will rank pari passu with, or equal to, all outstanding and future unsecured indebtedness issued by us and our general liabilities (total liabilities, less debt).

The 2026 Notes are not secured by any of our assets or any of the assets of our subsidiaries. As a result, the 2026 Notes are effectively subordinated to any secured indebtedness we may incur in the future (or any indebtedness that is initially unsecured to which we subsequently grant security) to the extent of the value of the assets securing such indebtedness. In any liquidation, dissolution, bankruptcy or other similar proceeding, the holders of any of our existing or future secured indebtedness and the secured indebtedness of our subsidiaries may assert rights against the assets pledged to secure that indebtedness to receive full payment of their indebtedness before the assets may be used to pay other creditors, including the holders of the 2026 Notes. In addition, the 2026 Notes will rank pari passu with, or equal to, all outstanding and future unsecured indebtedness issued by us and our general liabilities (total liabilities, less debt).

The 2026 Notes are structurally subordinated to the indebtedness and other liabilities of our subsidiaries.

The 2026 Notes are obligations exclusively of the Company and not of any of our subsidiaries. None of our subsidiaries is a guarantor of the 2026 Notes and the 2026 Notes are not required to be guaranteed by any subsidiaries we may acquire or create in the future. Except to the extent we are a creditor with recognized claims against our subsidiaries, all claims of creditors of our subsidiaries will have priority over our equity interests in such subsidiaries (and therefore the claims of our creditors, including holders of the 2026 Notes) with respect to the assets of such subsidiaries. Even if we are recognized as a creditor of one or more of our subsidiaries, our claims would still be effectively subordinated to any security interests in the assets of any such subsidiary and to any indebtedness or other liabilities of any such subsidiary senior to our claims. Consequently, the 2026 Notes are structurally subordinated to all indebtedness and other liabilities of any of our subsidiaries and any subsidiaries that we may in the future acquire or establish. Our wholly-owned subsidiary, Gladstone Business Investment, is the obligor under our Credit Facility, which is structurally senior to the 2026 Notes. In addition, our subsidiaries may incur substantial additional indebtedness in the future, all of which would be structurally senior to the 2026 Notes.

 

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The indenture under which the 2026 Notes were issued contains limited protection for holders of the 2026 Notes.

The indenture under which the 2026 Notes were issued offers limited protection to holders of the 2026 Notes. The terms of the indenture and the 2026 Notes do not restrict our or any of our subsidiaries’ ability to engage in, or otherwise be a party to, a variety of corporate transactions, circumstances or events that could have an adverse impact on your investment in the 2026 Notes. In particular, the terms of the indenture and the 2026 Notes do not place any restrictions on our or our subsidiaries’ ability to:

 

   

issue securities or otherwise incur additional indebtedness or other obligations, including (1) any indebtedness or other obligations that would be equal in right of payment to the 2026 Notes, (2) any indebtedness or other obligations that would be secured and therefore rank effectively senior in right of payment to the 2026 Notes to the extent of the values of the assets securing such debt, (3) indebtedness of ours that is guaranteed by one or more of our subsidiaries and which therefore is structurally senior to the 2026 Notes and (4) securities, indebtedness or obligations issued or incurred by our subsidiaries that would be senior to our equity interests in our subsidiaries and therefore rank structurally senior to the 2026 Notes with respect to the assets of our subsidiaries, in each case other than an incurrence of indebtedness or other obligation that would cause a violation of Section 18(a)(1)(A) as modified by Section 61(a)(2) of the 1940 Act or any successor provisions, whether or not we continue to be subject to such provisions of the 1940 Act, which generally prohibit us incurring additional debt or issuing additional debt or preferred securities, unless our asset coverage, as defined in the 1940 Act, equals at least 150% after such incurrence or issuance;

 

   

pay dividends on, or purchase or redeem or make any payments in respect of, capital stock or other securities ranking junior in right of payment to the 2026 Notes, including our preferred stock and any subordinated indebtedness, in each case other than dividends, purchases, redemptions or payments that would cause our asset coverage to fall below the threshold specified in Section 18(a)(1)(B) as modified by Section 61(a)(2) of the 1940 Act or any successor provisions thereto, whether or not we are subject to such provisions of the 1940 Act, giving effect to any no-action relief granted by the SEC to another BDC and upon which we may reasonably rely (or to us if we determine to seek such similar SEC no-action or other relief) permitting the BDC to declare any cash dividend or distribution notwithstanding the prohibition contained in Section 18(a)(1)(B) as modified by Section 61(a)(2) of the 1940 Act to maintain the BDC’s status as a RIC under Subchapter M of the Code;

 

   

sell assets (other than certain limited restrictions on our ability to consolidate, merge or sell all or substantially all of our assets);

 

   

enter into transactions with affiliates;

 

   

create liens (including liens on the shares of our subsidiaries) or enter into sale and leaseback transactions;

 

   

make investments; or

 

   

create restrictions on the payment of dividends or other amounts to us from our subsidiaries.

In addition, the indenture and the 2026 Notes do not require us to make an offer to purchase the 2026 Notes in connection with a change of control or any other event.

Furthermore, the terms of the indenture and the 2026 Notes do not protect holders of the 2026 Notes in the event that we experience changes (including significant adverse changes) in our financial condition, results of operations or credit ratings, if any, as they do not require that we or our subsidiaries adhere to any financial tests or ratios or specified levels of net worth, revenues, income, cash flow, or liquidity.

Our ability to recapitalize, incur additional debt (including additional debt that matures prior to the maturity of the 2026 Notes) and take a number of other actions that are not limited by the terms of the 2026 Notes may have important consequences for you as a holder of the 2026 Notes, including making it more difficult for us to satisfy our obligations with respect to the 2026 Notes or negatively affecting the trading value of the 2026 Notes.

 

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Other debt we issue or incur in the future could contain more protections for its holders than the indenture and the 2026 Notes, including additional covenants and events of default. The issuance or incurrence of any such debt with incremental protections could affect the market for, trading levels, and prices of the 2026 Notes.

An active trading market for the 2026 Notes may not exist, which could limit your ability to sell the 2026 Notes or affect the market price of the 2026 Notes.

An active trading market for the 2026 Notes may not exist in the future and holders may not be able to sell their 2026 Notes. Even if an active trading market does exist, the 2026 Notes may trade at a discount from their initial offering price depending on prevailing interest rates, the market for similar securities, our credit ratings, if any, general economic conditions, our financial condition, performance and prospects and other factors. To the extent an active trading market does not exist, the liquidity and trading price for the 2026 Notes may be harmed. Accordingly, holders of the 2026 Notes may be required to bear the financial risk of an investment in the 2026 Notes for an indefinite period of time.

If we default on our obligations to pay our other indebtedness, we may not be able to make payments on the 2026 Notes.

Any default under the agreements governing our indebtedness, including a default under the Credit Facility or other indebtedness to which we may be a party, that is not waived by the required lenders or holders, and the remedies sought by the holders of such indebtedness could make us unable to pay principal, premium, if any, and interest on the 2026 Notes and substantially decrease the market value of the 2026 Notes. If we are unable to generate sufficient cash flow and are otherwise unable to obtain funds necessary to meet required payments of principal, premium, if any, and interest on our indebtedness, or if we otherwise fail to comply with the various covenants, including financial and operating covenants, in the instruments governing our indebtedness, we could be in default under the terms of the agreements governing such indebtedness, including the 2026 Notes. In the event of such default, the holders of such indebtedness could elect to declare all the funds borrowed thereunder to be due and payable, together with accrued and unpaid interest, the lenders under the Credit Facility or other debt we may incur in the future could elect to terminate their commitments, cease making further loans and institute foreclosure proceedings against our assets, and we could be forced into bankruptcy or liquidation. If our operating performance declines, we may in the future need to refinance or restructure our debt, including the 2026 Notes, sell assets, reduce or delay capital investments, seek to raise additional capital or seek to obtain waivers from the required lenders under the Credit Facility or other debt that we may incur in the future to avoid being in default. If we are unable to implement one or more of these alternatives, we may not be able to meet our payment obligations under the 2026 Notes or our other debt. If we breach our covenants under the Credit Facility or other debt and seek a waiver, we may not be able to obtain a waiver from the required lenders or holders. If this occurs, we would be in default under the Credit Facility or other debt, the lenders or holders could exercise their rights as described above, and we could be forced into bankruptcy or liquidation. If we are unable to repay debt, lenders having secured obligations, including the lenders under the Credit Facility, could proceed against the collateral securing the debt. Because the Credit Facility has, and any future credit facilities will likely have, customary cross-default provisions, if the indebtedness under the 2026 Notes or the Credit Facility or under any future credit facility is accelerated, we may be unable to repay or finance the amounts due.

We may choose to redeem the 2026 Notes when prevailing interest rates are relatively low.

On or after May 1, 2023, we may choose to redeem the 2026 Notes from time to time, especially if prevailing interest rates are lower than the rate borne by the 2026 Notes. If prevailing rates are lower at the time of redemption, and we redeem the 2026 Notes, you likely would not be able to reinvest the redemption proceeds in a comparable security at an effective interest rate as high as the interest rate on the 2026 Notes being redeemed. Our redemption right also may adversely impact your ability to sell the 2026 Notes as the optional redemption date or period approaches.

 

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A downgrade, suspension or withdrawal of any credit rating assigned by a rating agency to us or the 2026 Notes could cause the liquidity or market value of the 2026 Notes to decline significantly.

Any credit rating is an assessment by the assigning rating agency of our ability to pay our debts when due. Consequently, real or anticipated changes in any credit ratings will generally affect the market value of the 2026 Notes. These credit ratings may not reflect the potential impact of risks relating to the structure or marketing of the 2026 Notes. Credit ratings are not a recommendation to buy, sell or hold any security, and may be revised or withdrawn at any time by the issuing organization in its sole discretion. There can be no assurance that any credit ratings will remain for any given period of time or that such credit ratings will not be lowered or withdrawn entirely by the rating agencies if in their judgment future circumstances relating to the basis of the credit ratings, such as adverse changes in our Company, so warrant.

General Risks Factors

Cybersecurity risks and cyber incidents may adversely affect our business by causing a disruption to our operations, or the operations of businesses in which we invest, a compromise or corruption of our confidential information and/or damage to our business relationships, all of which could negatively impact our business, financial condition and operating results.

Maintaining our network security is of critical importance because our systems store highly confidential financial models and portfolio company information. Although we have implemented, and will continue to implement, security measures, our technology platform may be vulnerable to intrusion, computer viruses or similar disruptive problems caused by cyber-attacks. A cyber incident is considered to be any adverse event that threatens the confidentiality, integrity or availability of our information resources or those of our portfolio companies. These incidents may be an intentional attack or an unintentional event and could involve gaining unauthorized access to our information systems or those of our portfolio companies for purposes of misappropriating assets, stealing confidential information, corrupting data or causing operational disruption. The result of these incidents may include disrupted operations, misstated or unreliable financial data, liability for stolen assets or information, increased cybersecurity protection and insurance costs, litigation and damage to our business relationships or those of our portfolio companies. As our and our portfolio companies’ reliance on technology has increased, so have the risks posed to our information systems, both internal and those provided to us by third-party service providers, and the information systems of our portfolio companies. We have implemented processes, procedures and internal controls to help mitigate cybersecurity risks and cyber intrusions, but these measures, as well as our increased awareness of the nature and extent of a risk of a cyber incident, do not guarantee that a cyber incident will not occur and/or that our financial results, operations or confidential information will not be negatively impacted by such an incident. In addition, any such incident, disruption or other loss of information could result in legal claims or proceedings, liability under laws that protect the privacy of personal information, and regulatory penalties, disrupt our operations, and damage our and our Adviser’s reputations, resulting in a loss of confidence in our services and our Adviser’s services, which could adversely affect our business.

 

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We are dependent on information systems and systems failures could significantly disrupt our business, which may, in turn, negatively affect the market price of our common stock and our ability to pay dividends.

Our business is dependent on our and third parties’ communications and information systems. Any failure or interruption of those systems, including as a result of the termination of an agreement with any third-party service providers, could cause delays or other problems in our activities. Our financial, accounting, data processing, backup or other operating systems and facilities may fail to operate properly or become disabled or damaged as a result of a number of factors including events that are wholly or partially beyond our control and adversely affect our business. There could be:

 

   

sudden electrical or telecommunications outages;

 

   

natural disasters such as earthquakes, tornadoes and hurricanes;

 

   

disease pandemics;

 

   

events arising from local or larger scale political or social matters, including terrorist acts; and

 

   

cyber-attacks.

These events, in turn, could have a material adverse effect on our operating results and negatively affect the market price of our common stock and our ability to pay dividends to our stockholders.

Changes in laws or regulations governing our operations, or changes in the interpretation thereof, and any failure by us to comply with laws or regulations governing our operations may adversely affect our business.

We, and our portfolio companies, are subject to regulation by laws at the local, state and federal levels. These laws and regulations, as well as their interpretation, may be changed from time to time. Accordingly, any change in these laws or regulations, or their interpretation, or any failure by us or our portfolio companies to comply with these laws or regulations may adversely affect our business. Refer to “Business—Material U.S. Federal Income Tax Considerations — RIC Status” and “Business — Regulation as a BDC” for additional information regarding the regulations to which we are subject.

We may experience fluctuations in our quarterly and annual operating results.

We may experience fluctuations in our quarterly and annual operating results due to a number of factors, including, among others, variations in our investment income, the level of our expenses, variations in and the timing of the recognition of realized and unrealized gains or losses, rapidly changing valuation of our portfolio companies, placing and removing investments on non-accrual status, the degree to which we encounter competition in our markets, the ability to sell investments at attractive terms, the ability to fund and close suitable investments, and general economic conditions, including the impacts of inflation or the current COVID-19 pandemic. The majority of our portfolio companies are in industries that are directly impacted by inflation, such as manufacturing and consumer goods and services. Our portfolio companies may not be able to pass on to customers increases in their costs of production which could greatly affect their operating results, impacting their ability to service and repay our loans. In addition, any potential future decreases in our portfolio companies’ operating results due to inflation could adversely impact the fair value of those investments. Any decreases in the fair value of our investments could result in future realized and unrealized losses and therefore reduce our net assets. As a result of these factors, results for any period should not be relied upon as being indicative of performance in future periods.

 

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ITEM 1B.

UNRESOLVED STAFF COMMENTS

None.

 

ITEM 2.

PROPERTIES

We do not own any real estate or other physical properties material to our operations. The Adviser is the current leaseholder of all properties in which we operate. We occupy these premises pursuant to our Advisory and Administration Agreements with the Adviser and Administrator, respectively.

 

ITEM 3.

LEGAL PROCEEDINGS

From time to time, we may become involved in various investigations, claims and legal proceedings that arise in the ordinary course of our business. Furthermore, third parties may try to seek to impose liability on us in connection with the activities of our portfolio companies. Refer to “Risk Factors — Risks Related to Our Investments — Portfolio company-related litigation or other litigation or claims against us or our personnel could result in costs, including defense costs or damages, and the diversion of management time and resources” for additional information. While we do not expect that the resolution of these matters, if they arise, would materially affect our business, financial condition, results of operations or cash flows, resolution will be subject to various uncertainties and could result in the expenditure of significant financial and managerial resources.

 

ITEM 4.

MINE SAFETY DISCLOSURES

Not Applicable.

 

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PART II

ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES

Our common stock is traded on Nasdaq under the symbol “GAIN.” The following table reflects, by quarter, the high and low intraday sales prices per share of our common stock on Nasdaq, the intraday sales prices as a percentage of NAV per share and quarterly distributions declared per common share for each fiscal quarter during the last two completed fiscal years and the current fiscal year through May 10, 2021.

 

    Quarter
Ended/
Ending
  

 

     Sales Prices      Premium /
(Discount) of

High to NAV(B)
    Premium
(Discount) of

Low to NAV(B)
    Declared
Common Stock
Distributions
 
   NAV(A)      High      Low  

Fiscal Year ended March 31, 2020:

  6/30/2019    $ 12.29      $ 12.70      $ 10.97        3     (11 )%    $ 0.2940 (C) 
  9/30/2019      12.39        12.54        11.07        1       (11     0.2340 (C) 
  12/31/2019      12.51        15.34        11.85        23       (5     0.2940 (C) 
  3/31/2020      11.17        13.99        6.43        25       (42     0.2100  

Fiscal Year ended March 31, 2021:

  6/30/2020    $ 10.87      $ 11.51      $ 6.75        6       (38   $ 0.3000 (D) 
  9/30/2020      10.86        10.39        8.88        (4     (18     0.2100  
  12/31/2020      11.11        10.80        8.16        (3     (27     0.2100  
  3/31/2021      11.52        12.74        9.91        11       (14     0.2100  

Fiscal Year ending March 31, 2022:

  6/30/2021
(through
May 10,
2021)
   $ *      $ 14.48      $ 12.27        *       *     $ 0.2700 (E) 

 

(A)

NAV per share is determined as of the last day in the relevant quarter and therefore may not reflect the NAV per share on the date of the high and low intraday sales prices. The NAVs per share shown are based on outstanding shares at the end of each period.

(B)

The premiums (discounts) set forth in these columns represent the high or low, as applicable, intraday sale prices per share for the relevant quarter minus the NAV per share as of the end of such quarter, and therefore may not reflect the premium (discount) to NAV per share on the date of the high and low intraday sales prices.

(C)

Includes a $0.09 per common share supplemental distribution paid in each of June 2019 and December 2019 and a $0.03 per common share supplemental distribution paid in September 2019.

(D)

Includes a $0.09 per common share supplemental distribution paid in June 2020.

(E)

Includes a $0.06 per common share supplemental distribution to be paid in June 2021.

*

Not yet available, as the NAV per share as of the end of this quarter has not yet been finalized.

As of May 7, 2021, there were 20 record owners of our common stock. This number does not include stockholders for whom shares are held in “street name.”

Distributions

We generally intend to distribute, in the form of cash distributions, up to 100% of our Investment Company Taxable Income, if any, to our stockholders in the form of monthly distributions. We may retain some or all of our net realized long-term capital gains, if any, and designate them as a deemed distribution to supplement our equity capital and support the growth of our portfolio, but we may also distribute all or a portion of such gains to stockholders in cash. For the year ended March 31, 2021, we did not elect to retain long-term capital gains and to treat them as deemed distributions to common stockholders. For the year ended March 31, 2020, we elected to retain $38.0 million, or $1.15 per common share, of net long-term capital gains and to designate the retained amount as deemed distributions to common stockholders. As a result, each common stockholder (i) was required

 

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to report their pro-rata share of the retained gain on their tax return as long-term capital gain, (ii) received a refundable tax credit for their pro-rata share of federal income tax paid by us on the retained gain, and (iii) increased the tax basis of their shares of common stock by an amount equal to the deemed distribution less the tax credit. We incurred $8.0 million, or $0.24 per common share, of federal income taxes on behalf of common stockholders for the year ended March 31, 2020. The Credit Facility also generally restricts distributions on our common stock to the sum of certain amounts, including, our net investment income, plus net capital gains, plus amounts elected by the Company to be considered as having been paid during the prior fiscal year in accordance with Section 855(a) of the Code.

Recent Sales of Unregistered Securities

We did not sell any unregistered securities during the fiscal year ended March 31, 2021.

Purchases of Equity Securities

The following table provides information with respect to the purchases made by or on behalf of the Company of our 6.25% Series D Cumulative Term Preferred Stock, par value $0.001 per share (the “Series D Term Preferred Stock”), during the fourth quarter of our fiscal year 2021. The Company elected to voluntarily redeem the entirety of the then issued and outstanding Series D Term Preferred Stock on March 3, 2021. On May 7, 2021, the Company executed and filed a Certificate of Elimination of 6.25% Series D Cumulative Term Preferred Stock, thereby removing the Certificate of Designation of the Series D Term Preferred Stock from the Company’s Amended and Restated Certificate of Incorporation. The Company does not have any existing publicly announced repurchase plans or programs.

 

Period

   (a)
Total Number
of Shares of
Series D
Term
Preferred
Stock
Purchased
     (b)
Average Price
Paid per Share
of Series D
Term Preferred
Stock
     (c)
Total Number of
Shares of Series D
Term Preferred
Stock Purchased
as Part of Publicly
Announced Plans
or Programs
     (d)
Maximum Number
of Shares of Series
D Term Preferred
Stock that May Yet
Be Purchased
Under the Plans or
Programs
 

January 1 through 31, 2021

     —          —          —          —    

February 1 through 28, 2021

     —          —          —          —    

March 1 through 31, 2021

     2,300,000      $ 25.00                —                  —    
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

     2,300,000      $ 25.00                —                  —    
  

 

 

    

 

 

    

 

 

    

 

 

 

 

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Stock Performance Graph

The following graph shows the total stockholder return on an investment of $100 in cash on March 31, 2016 for (i) our common stock, (ii) the Nasdaq’s 100 Total Return index (“Nasdaq 100 TR”), (iii) the Russell 1000 Total Return index (“Russell 1000 TR”) and (iv) the Wells Fargo BDC Total Return index (“WF BDC TR”). The graph and other information furnished under the heading “Stock Performance Graph” shall not be deemed to be incorporated by reference into any filing under the Securities Act or the Exchange Act, except to the extent that we specifically incorporate it by reference and shall not be deemed to be “soliciting material” or to be “filed” with the SEC or subject to Regulation 14A or 14C under, or to the liabilities of Section 18 of, the Exchange Act.

The returns on each investment assume reinvestment of dividends. This stock performance graph and the related textual information are not necessarily indicative of future performance.

 

LOGO

 

     GAIN      Nasdaq
100 TR
     Russell
1000 TR
     WF BDC
TR
 

3/31/2016

   $ 100.00      $ 100.00      $ 100.00      $ 100.00  

3/31/2017

     141.58        122.77        117.43        127.63  

3/31/2018

     172.48        150.26        133.84        116.03  

3/31/2019

     215.52        170.33        145.31        127.23  

3/31/2020

     158.98        182.29        134.26        78.89  

3/31/2021

     271.30        307.86        216.07        148.17  

 

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Fees and Expenses

The following table is intended to assist stockholders in understanding the costs and expenses that common stockholders will bear directly or indirectly. The percentages indicated in the table below are estimates and may vary. Except where the context suggests otherwise, whenever this Annual Report contains a reference to fees or expenses paid by “us” or the “Company,” or that “we” will pay fees or expenses, common stockholders will indirectly bear such fees or expenses as investors in the Company. The following annualized percentages were calculated based on actual expenses, except with respect to capital gains-based incentive fees as discussed below, incurred in the quarter ended March 31, 2021 and average net assets for the quarter ended March 31, 2021. The table and examples below include all fees and expenses of our consolidated subsidiaries.

 

Stockholder Transaction Expenses:

  

Sales load or other commission (as a percentage of offering price)(1)

     —  %  

Offering expenses (as a percentage of offering price)(1)

     —  %  

Dividend reinvestment plan expenses (per sales transaction fee)(2)

   Up to $
 
25 Transaction
fee
 
 

Total stockholder transaction expenses (as a percentage of offering price)(1)

     —  %  

Annual expenses (as a percentage of net assets attributable to common stock)(3):

  

Base management fee(4)

     3.38%  

Loan servicing fee(5)

     1.97%  

Incentive fees (20% of realized capital gains and 20% of pre-incentive fee net investment income) (6)

     5.70%  

Interest payments on borrowed funds(7)

     1.78%  

Dividend expense on mandatorily redeemable preferred stock(8)

     2.45%  

Other expenses(9)

     1.59%  
  

 

 

 

Total annual expenses(10)

     16.87%  

 

(1) 

The amounts set forth in the table above do not reflect the impact of any sales load or other commission or offering expenses borne by the Company and its common stockholders. If applicable, the prospectus or prospectus supplement relating to an offering of our common stock will disclose the offering price and the estimated offering expenses and total stockholder transaction expenses borne by the Company and its common stockholders as a percentage of the offering price. In the event that shares of our common stock are sold to or through underwriters, the applicable prospectus or prospectus supplement will also disclose the applicable sales load or other commission.

 

(2) 

The expenses of the dividend reinvestment plan, if any, are included in stock record expenses, a component of “Other expenses.” If a participant elects by written notice to the plan agent prior to termination of his or her account to have the plan agent sell part or all of the shares held by the plan agent in the participant’s account and remit the proceeds to the participant, the plan agent is authorized to deduct a transaction fee, plus per share brokerage commissions, from the proceeds. The participants in the dividend reinvestment plan will also bear a transaction fee, plus per share brokerage commissions incurred with respect to open market purchases, if any. See “Item 7. Managements Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources—Distributions and Dividends to Stockholders—Dividend Reinvestment Plan” for information on the dividend reinvestment plan.

 

(3) 

The percentages presented in this table are gross of credits to any fees.

 

(4) 

The base management fee is payable quarterly to the Adviser pursuant to our Advisory Agreement and is assessed at an annual rate of 2.0% computed on the basis of the value of our average gross assets at the end

 

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  of the two most recently completed quarters (inclusive of the current quarter), which are total assets, including investments made with proceeds of borrowings, less any uninvested cash or cash equivalents resulting from borrowings, valued at the end of the applicable quarters within the respective period and adjusted appropriately for any share issuances or repurchases during the period. In accordance with the requirements of the SEC, the table above shows our base management fee as a percentage of average net assets attributable to common stockholders. For purposes of the table, the annualized base management fee has been converted to 3.38% of the average net assets for the quarter ended March 31, 2021 by dividing the total annualized amount of the base management fee by our average net assets for the quarter ended March 31, 2021. The base management fee for the quarter ended March 31, 2021 before application of any credits was $3.2 million.

Pursuant to the requirements of the 1940 Act, the Adviser makes available significant managerial assistance to our portfolio companies. The Adviser may also provide other services to our portfolio companies under certain agreements and may receive fees for services other than managerial assistance. Such services may include: (i) assistance obtaining, sourcing or structuring credit facilities, long term loans or additional equity from unaffiliated third parties; (ii) negotiating important contractual financial relationships; (iii) consulting services regarding restructuring of the portfolio company and financial modeling as it relates to raising additional debt and equity capital from unaffiliated third parties; and (iv) primary role in interviewing, vetting, and negotiating employment contracts with candidates in connection with adding and retaining key portfolio company management team members. The Adviser non-contractually, unconditionally, and irrevocably credits 100% of any fees received for such services against the base management fee that we

would otherwise be required to pay to the Adviser; however, pursuant to the terms of the Advisory Agreement, a small percentage of certain of such fees is retained by the Adviser in the form of reimbursement, at cost, for tasks completed by personnel of the Adviser and primarily related to the valuation of portfolio companies. For the quarter ended March 31, 2021, $0.4 million of these fees were non-contractually, unconditionally and irrevocably credited against the base management fee. See Item 1. Business — Transactions with Related Parties — Investment Advisory and Management Agreement” for additional information.

 

(5) 

The Adviser services the loans held by Business Investment in return for which the Adviser receives a 2.0% annual loan servicing fee based on the monthly aggregate balance of loans pledged under the Credit Facility. Since Business Investment is a consolidated subsidiary of ours, coupled with the fact that the total base management fee paid to the Adviser pursuant to the Advisory Agreement cannot exceed 2.0% of total assets (less any uninvested cash or cash equivalents resulting from borrowings) during any given calendar year, we treat payment of the loan servicing fee pursuant to the Credit Facility as a pre-payment of the base management fee under the Advisory Agreement. Accordingly, these loan servicing fees are 100% non-contractually, unconditionally and irrevocably credited back to us by the Adviser. The loan servicing fee for the three months ended March 31, 2021 was $1.8 million. See “Item 1. Business—Transactions with Related Parties—Loan Servicing Fee Pursuant to Credit Facility” and footnote 4 above for additional information.

 

(6) 

The incentive fee payable to the Adviser under the Advisory Agreement consists of two parts: an income-based fee and a capital gains-based fee. The income-based incentive fee is payable quarterly in arrears, and equals 20% of the excess, if any, of our pre-incentive fee net investment income that exceeds a 1.75% quarterly hurdle rate of our net assets, which we define as total assets less indebtedness and before taking into account any incentive fees payable or contractually due but not payable during the period, at the end of the immediately preceding calendar quarter, adjusted appropriately for any share issuances or repurchases during the period, subject to a “catch-up” provision measured as of the end of each calendar quarter. The “catch-up” provision requires us to pay 100% of our pre-incentive fee net investment income with respect to that portion of such income, if any, that exceeds the hurdle rate but is less than 125% of the quarterly hurdle rate (or 2.1875%) in any calendar quarter. The catch-up provision is meant to provide our Adviser with 20% of our pre-incentive fee net investment income as if a hurdle rate did not apply when our pre-incentive fee net investment income exceeds 125% of the quarterly hurdle rate in any calendar quarter. For the three months ended March 31, 2021, the income-based incentive fee was $1.7 million.

 

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The capital gains-based incentive fee equals 20% of our net realized capital gains in excess of unrealized depreciation since our inception, if any, computed as all realized capital gains net of all realized capital losses and unrealized depreciation since our inception, less any prior payments, measured at the end of each calendar year and payable at the end of each fiscal year. During the three months ended March 31, 2021, we recorded capital gains-based incentive fees of $3.6 million in accordance with GAAP, which were not contractually due under the terms of the Advisory Agreement.

No credits were applied to incentive fees for the three months ended March 31, 2021; however, the Adviser may credit such fees in the future.

Examples of how the incentive fee would be calculated are as follows:

 

   

Assuming pre-incentive fee net investment income of 0.55%, there would be no income-based incentive fee because such income would not exceed the hurdle rate of 1.75%.

 

   

Assuming pre-incentive fee net investment income of 2.00%, the income-based incentive fee would be as follows:

= 100.0% × (2.00% - 1.75%)

= 0.25%

 

   

Assuming pre-incentive fee net investment income of 2.30%, the income-based incentive fee would be as follows:

= (100.0% × (“catch-up”: 2.1875% - 1.75%)) + (20.0% × (2.30% - 2.1875%))

= (100.0% × 0.4375%) + (20.0% × 0.1125%)

= 0.4375% + 0.0225%

= 0.46%

 

   

Assuming net realized capital gains of 6% and realized capital losses and unrealized capital depreciation of 1%, the capital gains-based incentive fee would be as follows:

= 20.0% × (6.0% - 1.0%)

= 20.0% × 5.0%

= 1.0%

For a more detailed discussion of the calculation of the two-part incentive fee, including the capital gains-based incentive fee calculation under GAAP, see “Item 1. Business — Transactions with Related Parties — Investment Advisory and Management Agreement.

 

(7) 

Includes amortization of deferred financing costs. As of March 31, 2021, we had $22.4 million in borrowings outstanding under our Credit Facility, $127.9 million of 2026 Notes, at cost, and $5.1 million of secured borrowings. See “Item 7. Managements Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources—Revolving Line of Credit” and “Item 7. Managements Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources—Notes Payable” for additional information regarding the Credit Facility and the 2026 Notes.

 

(8) 

Includes dividends paid on our Series E Term Preferred Stock and amortization of deferred financing costs. See “Item 7. Managements Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources—Equity—Term Preferred Stock” for additional information.

 

(9) 

Includes our overhead expenses, including payments under the Administration Agreement based on our projected allocable portion of overhead and other expenses estimated to be incurred by our Administrator for the current fiscal year in performing its obligations under the Administration Agreement. See “Item 1. Business—Transactions with Related Parties—Administration Agreement for additional information.

 

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(10) 

Total annualized gross expenses, based on actual amounts incurred for the three months ended March 31, 2021 (except as set forth in footnote 9), would be $63.0 million. After all non-contractual, unconditional, and irrevocable credits described in footnote 4, footnote 5, and footnote 6 above are applied to the base management fee and the loan servicing fee, total annualized expenses after fee credits, based on actual amounts incurred for the three months ended March 31, 2021 (except as set forth in footnote 9), would be $54.3 million or 14.52% as a percentage of average net assets.

 

Example

The following example demonstrates the projected dollar amount of total cumulative expenses that would be incurred over various periods with respect to a hypothetical investment in our common stock. In calculating the following expense amounts, we have assumed that our annual operating expenses would remain at the levels set forth in the table above. The example below and the expenses in the table above should not be considered a representation of our future expenses, and actual expenses may be greater or less than those shown. While the example assumes, as required by the SEC, a 5.0% annual return, our performance will vary and may result in a return greater or less than 5.0%. Dollar amounts in the table below are not in thousands.

 

     1 Year      3 Years      5 Years      10 Years  

Common stockholders would pay the following expenses on a $1,000 investment:

           

assuming a 5% annual return consisting entirely of ordinary income(1)(2)

   $ 117      $ 329      $ 513      $ 875  

assuming a 5% annual return consisting entirely of capital gains(2)(3)

   $ 126      $ 350      $ 542      $ 906  

 

(1) 

For purposes of this example, we have assumed that the entire amount of the assumed 5.0% annual return would constitute ordinary income. Because the assumed 5.0% annual return is significantly below the hurdle rate of 7.0% (annualized) that we must achieve under the Advisory Agreement to trigger the payment of an income-based incentive fee, we have assumed, for purposes of this example, that no income-based incentive fee would be payable if we realized a 5.0% annual return.

 

(2) 

While the example assumes reinvestment of all distributions at NAV per share, participants in the dividend reinvestment plan will receive a number of shares of our common stock determined by dividing the total dollar amount of the distribution payable to a participant by the market price per share of our common stock at the close of trading on the valuation date for the distribution, and this price per share may differ from NAV per share. See “Item 7. Managements Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources—Distributions and Dividends to Stockholders—Dividend Reinvestment Plan” for additional information regarding our dividend reinvestment plan.

 

(3) 

For purposes of this example, we have assumed that the entire amount of the assumed 5.0% annual return would constitute capital gains and that no accumulated capital losses or unrealized depreciation would have to be overcome first before a capital gains-based incentive fee is payable.

 

Senior

Securities

Information about our senior securities is shown in the following table as of the end of each of our last ten fiscal years. The annual information has been derived from our audited financial statements for each respective period, which have been audited by PricewaterhouseCoopers LLP, our independent registered public accounting firm. The report of our independent registered public accounting firm, PricewaterhouseCoopers LLP, on the senior securities table as of March 31, 2021, is included elsewhere in this Annual Report.

 

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Class and Year    Total Amount
Outstanding Exclusive of
Treasury Securities(1)
    

Asset

Coverage

Per Unit(2)

     Involuntary
Liquidating
Preference Per
Unit(3)
    

Average

Market

Value

Per Unit(4)

 

7.125% Series A Cumulative Term Preferred Stock(5)

           

March 31, 2021

     —          N/A        —          N/A  

March 31, 2020

     —          N/A        —          N/A  

March 31, 2019

     —          N/A        —          N/A  

March 31, 2018

     —          N/A        —          N/A  

March 31, 2017

     —          N/A        —          N/A  

March 31, 2016

   $ 40,000,000      $ 2,214      $ 25.00      $ 25.60  

March 31, 2015

     40,000,000        2,301        25.00        25.78  

March 31, 2014

     40,000,000        2,978        25.00        26.53  

March 31, 2013

     40,000,000        2,725        25.00        26.92  

March 31, 2012

     40,000,000        2,676        25.00        24.97  

6.75% Series B Cumulative Term Preferred Stock(6)

           

March 31, 2021

     —          N/A        —          N/A  

March 31, 2020

            N/A               N/A  

March 31, 2019

            N/A               N/A  

March 31, 2018

   $ 41,400,000      $ 2,373      $ 25.00      $ 25.20  

March 31, 2017

     41,400,000        2,356        25.00        26.00  

March 31, 2016

     41,400,000        2,214        25.00        24.43  

March 31, 2015

     41,400,000        2,301        25.00        25.38  

6.50% Series C Cumulative Term Preferred Stock due

2022(7)

           

March 31, 2021

     —          N/A        —          N/A  

March 31, 2020

     —          N/A        —          N/A  

March 31, 2019

     —          N/A        —          N/A  

March 31, 2018

     40,250,000      $ 2,373      $ 25.00      $ 25.33  

March 31, 2017

     40,250,000        2,356        25.00        25.64  

March 31, 2016

     40,250,000        2,214        25.00        23.92  

6.25% Series D Cumulative Term Preferred Stock due 2023(8)

           

March 31, 2021

     —          N/A        —          N/A  

March 31, 2020

   $ 57,500,000      $ 2,938      $ 25.00      $ 20.46  

March 31, 2019

     57,500,000        3,091        25.00        25.38  

March 31, 2018

     57,500,000        2,373        25.00        25.22  

March 31, 2017

     57,500,000        2,356        25.00        25.43  

6.375% Series E Cumulative Term Preferred Stock due 2025(9)

           

March 31, 2021

   $ 94,371,325      $ 2,486      $ 25.00      $ 25.44  

March 31, 2020

     74,750,000        2,938        25.00        19.52  

March 31, 2019

     74,750,000        3,091        25.00        25.55  

Revolving credit facilities

           

March 31, 2021

   $ 22,400,000      $ 3,980        —          N/A  

March 31, 2020

     49,200,000        9,935        —          N/A  

March 31, 2019

     53,000,000        9,976        —          N/A  

March 31, 2018

     107,000,000        5,257        —          N/A  

March 31, 2017

     69,700,000        6,613        —          N/A  

March 31, 2016

     95,000,000        4,838        —          N/A  

March 31, 2015

     118,800,000        2,301        —          N/A  

 

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Class and Year    Total Amount
Outstanding Exclusive of
Treasury Securities(1)
    

Asset

Coverage

Per Unit(2)

     Involuntary
Liquidating
Preference Per
Unit(3)
    

Average

Market

Value

Per Unit(4)

 

March 31, 2014

     61,250,000        2,978        —          N/A  

March 31, 2013

     31,000,000        2,725        —          N/A  

March 31, 2012

     —          N/A        —          N/A  

Short-term loan

           

March 31, 2021

     —          N/A        —          N/A  

March 31, 2020

     —          N/A        —          N/A  

March 31, 2019

     —          N/A        —          N/A  

March 31, 2018

     —          N/A        —          N/A  

March 31, 2017

     —          N/A        —          N/A  

March 31, 2016

     —          N/A        —          N/A  

March 31, 2015

     —          N/A        —          N/A  

March 31, 2014

     —          N/A        —          N/A  

March 31, 2013

   $ 58,016,000      $ 2,725        —          N/A  

March 31, 2012

     76,005,000        2,676        —          N/A  

2026 Notes(10)

           

March 31, 2021

   $ 127,937,500      $ 3,980      $ 25.00      $ 25.85  

Secured borrowings(11)

           

March 31, 2021

   $ 5,095,785      $ 3,980        —          N/A  

March 31, 2020

     5,095,785        9,935        —          N/A  

March 31, 2019

     5,095,785        9,976        —          N/A  

March 31, 2018

     5,095,785        5,257        —          N/A  

March 31, 2017

     5,095,785        6,613        —          N/A  

March 31, 2016

     5,095,785        4,838        —          N/A  

March 31, 2015

     5,095,785        2,301        —          N/A  

March 31, 2014

     5,000,000        2,978        —          N/A  

March 31, 2013

     5,000,000        2,725        —          N/A  

 

(1) 

Total amount of each class of senior securities outstanding as of the dates presented.

(2) 

Asset coverage is the ratio of the carrying value of our total consolidated assets, less all liabilities and indebtedness not represented by senior securities, to the aggregate amount of senior securities representing indebtedness (including interest payable and guaranties). Asset coverage per unit is the asset coverage ratio expressed in terms of dollar amounts per one thousand dollars of indebtedness.

(3) 

The amount to which such class of senior security would be entitled upon the involuntary liquidation of the issuer in preference to any security junior to it.

(4) 

Only applicable to our Term Preferred Stock and our 2026 Notes because the other senior securities are not registered for public trading. Average market value per unit is the average of the closing price of the shares on Nasdaq during the last 10 trading days of the period.

(5) 

Our Series A Term Preferred Stock was issued in March 2012 and redeemed in September 2016.

(6) 

Our Series B Term Preferred Stock was issued in November 2014 and redeemed in August 2018.

(7) 

Our Series C Term Preferred Stock was issued in May 2015 and redeemed in August 2018.

(8) 

Our Series D Term Preferred Stock was issued in September 2016 and redeemed in March 2021.

(9) 

Our Series E Term Preferred Stock was issued in August 2018.

(10) 

Our 2026 Notes were issued in March 2021.

(11) 

In August 2012, we entered into a participation agreement with a third-party related to $5.0 million of our secured second lien term debt investment in Ginsey Home Solutions, Inc. (“Ginsey”). In May 2014, we amended the agreement with the third-party to include an additional $0.1 million. Accounting Standards Codification Topic 860, “Transfers and Servicing” requires us to treat the participation as a financing-type transaction. Specifically, the third-party has a senior claim to our remaining investment in the event of default by Ginsey which, in part, resulted in the loan participation bearing a rate of interest lower than the

 

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  contractual rate established at origination. Therefore, our accompanying Consolidated Statements of Assets and Liabilities reflect the entire secured second lien term debt investment in Ginsey and a corresponding $5.1 million secured borrowing liability. The secured borrowing has a stated fixed interest rate of 7.0% and a maturity date of January 3, 2025.

 

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ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following analysis of our financial condition and results of operations should be read in conjunction with our accompanying Consolidated Financial Statements and the notes thereto contained elsewhere in this Annual Report. Historical financial condition and results of operations and percentage relationships among any amounts in the financial statements are not necessarily indicative of financial condition, results of operations or percentage relationships for any future periods. Except per share amounts, dollar amounts included herein are in thousands unless otherwise indicated.

OVERVIEW

General

We were incorporated under the General Corporation Law of the State of Delaware on February 18, 2005. On June 22, 2005, we completed our initial public offering and commenced operations. We operate as an externally managed, closed-end, non-diversified management investment company and have elected to be treated as a BDC under the 1940 Act. For U.S. federal income tax purposes, we have elected to be treated as a RIC under Subchapter M of the Code. To continue to qualify as a RIC for U.S. federal income tax purposes and obtain favorable RIC tax treatment, we must meet certain requirements, including certain minimum distribution requirements.

We were established for the purpose of investing in debt and equity securities of established private businesses operating in the U.S. Our investment objectives are to: (i) achieve and grow current income by investing in debt securities of established businesses that we believe will provide stable earnings and cash flow to pay expenses, make principal and interest payments on our outstanding indebtedness, and make distributions to stockholders that grow over time; and (ii) provide our stockholders with long-term capital appreciation in the value of our assets by investing in equity securities of established businesses, generally, in combination with the aforementioned debt securities, that we believe can grow over time to permit us to sell our equity investments for capital gains. To achieve our objectives, our investment strategy is to invest in several categories of debt and equity securities, with individual investments generally totaling up to $40 million, although investment size may vary, depending upon our total assets or available capital at the time of investment. We expect that our investment portfolio over time will consist of approximately 75% in debt securities and 25% in equity securities, at cost. As of March 31, 2021, our investment portfolio was comprised of 74.4% in debt securities and 25.6% in equity securities, at cost.

We focus on investing in Lower Middle Market businesses in the U.S. that meet certain criteria, including: the sustainability of the business’ free cash flow and its ability to grow it over time, adequate assets for loan collateral, experienced management teams with a significant ownership interest in the portfolio company, reasonable capitalization of the portfolio company, including an ample equity contribution or cushion based on prevailing enterprise valuation multiples, and the potential to realize appreciation and gain liquidity in our equity position, if any. We anticipate that liquidity in our equity position will be achieved through a merger or acquisition of the portfolio company, a public offering of the portfolio company’s stock or, to a lesser extent, by exercising our right to require the portfolio company to repurchase our warrants, though there can be no assurance that we will always have these rights. We invest in portfolio companies that need funds for growth capital, to finance acquisitions, including management buyouts, recapitalize or, to a lesser extent, refinance their existing debt facilities. We seek to avoid investing in high-risk, early-stage enterprises.

We invest by ourselves or jointly with other funds and/or management of the portfolio company, depending on the opportunity, and have opportunistically made several co-investments with Gladstone Capital pursuant to the Co-Investment Order. We believe the Co-Investment Order has enhanced and will continue to enhance our ability to further our investment objectives and strategies. If we are participating in an investment with one or more co-investors, whether or not an affiliate of ours, our investment is likely to be smaller than if we were investing alone.

 

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Business

Portfolio Activity

While the business environment remains competitive, we continue to see new investment opportunities consistent with our investment strategy of providing a combination of debt and equity in support of management and independent sponsor-led buyouts of Lower Middle Market companies in the U.S. During the year ended March 31, 2021, we invested in one new portfolio company and exited one portfolio company. From our initial public offering in June 2005 through March 31, 2021, we invested in 53 companies, excluding investments in syndicated loans, for a total of approximately $1.4 billion, before giving effect to principal repayments and divestitures.

The majority of the debt securities in our portfolio have a success fee component, which enhances the yield on our debt investments. Unlike PIK income, we generally do not recognize success fees as income until payment has been received. Due to the contingent nature of success fees, there are no guarantees that we will be able to collect any or all of these success fees or know the timing of any such collections. As a result, as of March 31, 2021, we had unrecognized, contractual success fees of $46.2 million, or $1.39 per common share. Consistent with GAAP, we generally have not recognized success fee receivables and related income in our accompanying Consolidated Financial Statements until earned.

From inception through March 31, 2021, we completed sales of 23 portfolio companies that we acquired under our buyout strategy (which excludes investments in syndicated loans). In the aggregate, these sales have generated $238.4 million in net realized gains and $31.4 million in other income upon exit, for a total increase to our net assets of $269.8 million. We believe, in aggregate, these transactions were equity-oriented investment successes and exemplify our investment strategy of striving to achieve returns through current income on the debt portion of our investments and capital gains from the equity portion. The 23 liquidity events have offset any realized losses since inception, which were primarily incurred during the 2008-2009 recession in connection with the sale of performing syndicated loans at a realized loss to pay off a former lender. The successful exits, in part, enabled us to increase the monthly distribution by 75.0% from March 2011 through March 31, 2021 and allowed us to declare and pay 11 supplemental distributions to common stockholders through March 31, 2021.

Capital Raising Efforts

We have been able to meet our capital needs through extensions of and increases to the Credit Facility and by accessing the capital markets in the form of public offerings of registered notes, as well as common and preferred stock. We have successfully extended the Credit Facility’s revolving period multiple times, most recently to February 2024, and currently have a total commitment amount of $180.0 million (with a potential total commitment of $300.0 million through additional commitments from new or existing lenders). During the year ended March 31, 2021, we issued our 2026 Notes for gross proceeds of $127.9 million, and sold 155,560 shares of our common stock under our at-the-market program (the “Common Stock ATM Program”) for gross proceeds of approximately $1.8 million, and 784,853 shares of our Series E Term Preferred Stock under our preferred stock at-the-market program (the “Series E ATM Program”) for gross proceeds of approximately $19.3 million. During the year ended March 31, 2020, we sold 227,004 shares of our common stock under our Common Stock ATM Program for gross proceeds of approximately $3.1 million. Additionally, we issued approximately 3.0 million shares of our Series E Term Preferred Stock for gross proceeds of $74.8 million in August 2018. Refer to “Liquidity and Capital Resources.”

Although we have been able to access the capital markets historically, market conditions, including the impact of COVID-19, may continue to affect the trading price of our common stock and thus our ability to finance new investments through the issuance of common equity. On March 31, 2021, the closing market price of our common stock was $12.23 per share, representing a 6.2% premium to our NAV of $11.52 per share as of March 31, 2021. When our common stock trades below NAV, our ability to issue additional equity is constrained by provisions of the 1940 Act, which generally prohibits the issuance and sale of our common stock at an issuance price below the then current NAV per share without stockholder approval, other than through sales to our then existing stockholders pursuant to a rights offering.

 

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At our 2020 Annual Meeting of Stockholders held on August 20, 2020, our stockholders approved a proposal authorizing us, with the subsequent approval of our Board of Directors, to issue and sell shares of our common stock at a price below our then current NAV per share, provided that the number of common shares issued and sold pursuant to such authority does not exceed 25.0% of our then outstanding common stock immediately prior to each such sale. This August 2020 stockholder authorization is in effect for one year from the date of stockholder approval. We sought and obtained stockholder approval concerning similar proposals at each Annual Meeting of Stockholders since 2008, and with our Board of Directors’ subsequent approval, we issued shares of our common stock in three offerings at a price below the then current NAV per share, once in May 2017, once in March 2015, and once in October 2012. Certain sales under the previous Common Stock ATM Program in March and April of 2018 were also below the then current estimated NAV per share. The resulting proceeds, in part, have allowed us to (i) grow our portfolio by making new investments, (ii) generate additional income through these new investments, (iii) ensure continued compliance with regulatory tests and (iv) increase our debt capital while still complying with our applicable debt-to-equity ratios. Refer to “Liquidity and Capital Resources — Equity — Common Stock” for further discussion of our common stock.

Regulatory Compliance

Our ability to seek external debt financing, to the extent that it is available under current market conditions, is further subject to the asset coverage limitations of the 1940 Act, which require us to have asset coverage (as defined in Sections 18 and 61 of the 1940 Act) of at least 150% on each of our senior securities representing indebtedness and our senior securities that are stock (such as our two series of term preferred stock currently outstanding).

On April 10, 2018, our Board of Directors, including a “required majority” (as such term is defined in Section 57(o) of the 1940 Act) thereof, approved the modified asset coverage requirements set forth in Section 61(a)(2) of the 1940 Act. As a result, our asset coverage requirements for senior securities changed from 200% to 150%, effective as of April 10, 2019, one year after the date of the Board of Directors’ approval.

As of March 31, 2021, our asset coverage ratio on our senior securities representing indebtedness was 398.0% and our asset coverage on our senior securities that are stock was 248.6%.

Investment Highlights

Investment Activity

During the fiscal year ended March 31, 2021, the following significant transactions occurred:

 

   

In July 2020, we invested $46.9 million in Mason West, LLC (“Mason West”) through a combination of secured first lien debt and preferred equity. Mason West, headquartered in Placentia, California, is a provider of engineered seismic restraint and vibration isolation solutions. In September 2020, Mason West repaid $7.0 million of secured first lien debt and redeemed $3.1 million of preferred equity.

 

   

In September 2020, we invested an additional $8.0 million in PSI Molded Plastics, Inc. (“PSI Molded”) in the form of preferred equity and also amended certain terms of our existing debt.

 

   

In December 2020, we recapitalized our investment in Old World Christmas, Inc. (“Old World”) and invested an additional $27.0 million in the form of secured first lien debt. In connection with this investment, Old World paid dividend income of $3.2 million and additional equity proceeds of $10.8 million, resulting in a $7.5 million return of preferred equity cost basis and a realized gain of $3.3 million.

 

   

In December 2020, we invested an additional $3.0 million in Galaxy Technologies, Inc. (“Galaxy”) in the form of secured second lien debt. In connection with this investment, Galaxy purchased SBS Industries, LLC (a subsidiary of SBS Industries Holdings, Inc. (“SBS Industries”), one of our other portfolio companies). SBS Industries used proceeds from the sale to partially repay our $11.4 million first lien debt, resulting in a realized loss of $8.5 million.

 

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In December 2020, we sold our investment in Frontier Packaging, Inc. (“Frontier”), which resulted in dividend income of $0.9 million, success fee income of $0.2 million, and a realized gain of $14.0 million. In connection with the sale, we received net cash proceeds of $26.0 million, including the repayment of our debt investment of $9.5 million at par.

Recent Developments

Distributions and Dividends

In April 2021, our Board of Directors declared the following monthly and supplemental cash distributions to common stockholders and monthly dividends to holders of our Series E Term Preferred Stock:

 

Record Date

   Payment Date            Distribution per      
      Common Share      
    Dividend per
Share of
Series E Term
Preferred Stock
 

April 23, 2021

     April 30, 2021      $ 0.07     $ 0.13281250  

May 19, 2021

     May 28, 2021        0.07       0.13281250  

June 8, 2021

     June 17, 2021        0.06 (A)      —    

June 18, 2021

     June 30, 2021        0.07       0.13281250  
     

 

 

   

 

 

 

Total for the Quarter:

 

   $ 0.27     $ 0.39843750  
     

 

 

   

 

 

 

 

(A) 

Represents a supplemental distribution to common stockholders.

LIBOR Transition

In general, our investments in debt securities have a term of five years, accrue interest at variable rates (based on the one-month LIBOR) and, to a lesser extent, at fixed rates. Most U.S. dollar LIBOR are currently anticipated to be phased out in June 2023. LIBOR may transition to a new standard rate, SOFR, which will incorporate certain overnight repo market data collected from multiple data sets. To attain an equivalent one-month rate, we currently intend to adjust the SOFR to minimize the difference between the interest that a borrower would be paying using LIBOR versus what it will be paying using SOFR. We are currently monitoring the transition and cannot assure you whether SOFR will become a standard rate for variable rate debt. We expect we will need to continue to renegotiate a limited number of loan agreements with our portfolio companies to include fallback language providing a mechanism for the parties to negotiate a new reference interest rate in the event that LIBOR ceases to exists. Assuming that SOFR replaces LIBOR and is appropriately adjusted to equate to one-month LIBOR, we expect that there should be minimal impact on our operations.

COVID-19 Impact

We continue to closely monitor and work with our portfolio companies to navigate the significant challenges created by the continuing COVID-19 pandemic, and remain focused on ensuring the safety of the Adviser’s and Administrator’s personnel and of the employees of our portfolio companies, while also managing our ongoing business activities. While we are closely monitoring all of our portfolio companies, our portfolio continues to be diverse from a geographic and industry perspective. Through proactive measures and continued diligence, the management teams of our portfolio companies continue to demonstrate their ability to respond effectively and efficiently to the challenges posed by COVID-19 and related orders imposed by state and local governments, including paused or reversed reopening orders. We believe we have sufficient levels of liquidity to support our existing portfolio companies, as necessary, and selectively deploy capital in new investment opportunities.

 

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RESULTS OF OPERATIONS

Comparison of the Fiscal Year Ended March 31, 2021 to the Fiscal Year Ended March 31, 2020

 

     For the Fiscal Years Ended March 31,  
     2021      2020      $ Change      % Change  

INVESTMENT INCOME

           

Interest income

   $ 47,164      $ 49,554      $ (2,390      (4.8 )% 

Dividend and success fee income

     9,463        12,370        (2,907      (23.5
  

 

 

    

 

 

    

 

 

    

 

 

 

Total investment income

     56,627        61,924        (5,297      (8.6
  

 

 

    

 

 

    

 

 

    

 

 

 

EXPENSES

           

Base management fee

     12,115        12,145        (30      (0.2

Loan servicing fee

     7,082        6,859        223        3.3  

Incentive fee

     8,778        (2,380      11,158        468.8  

Administration fee

     1,619        1,476        143        9.7  

Interest and dividend expense

     13,114        12,317        797        6.5  

Amortization of deferred financing costs and discounts

     1,750        1,492        258        17.3  

Other

     4,262        4,948        (686      (13.9
  

 

 

    

 

 

    

 

 

    

 

 

 

Expenses before credits from Adviser

     48,720        36,857        11,863        32.2  

Credits to fees from Adviser

     (10,031 )       (11,295      1,264        (11.2
  

 

 

    

 

 

    

 

 

    

 

 

 

Total expenses, net of credits to fees

     38,689        25,562        13,127        51.4  
  

 

 

    

 

 

    

 

 

    

 

 

 

NET INVESTMENT INCOME

     17,938        36,362        (18,424      (50.7
  

 

 

    

 

 

    

 

 

    

 

 

 

REALIZED AND UNREALIZED GAIN (LOSS), NET OF TAXES

           

Net realized gain on investments

     11,374        44,803        (33,429      (74.6

Taxes on deemed distribution of long-term capital gains

     —          (10,260      10,260        NM  

Net realized loss on other

     (782      —          (782      NM  

Net unrealized appreciation (depreciation) of investments

     13,924        (78,139      92,063        NM  
  

 

 

    

 

 

    

 

 

    

 

 

 

Net realized and unrealized gain (loss), net of taxes on deemed distribution of long-term capital gains

     24,516        (43,596      68,112        NM  
  

 

 

    

 

 

    

 

 

    

 

 

 

NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM OPERATIONS

   $ 42,454      $ (7,234    $ 49,688        NM  
  

 

 

    

 

 

    

 

 

    

 

 

 

BASIC AND DILUTED PER COMMON SHARE:

           

Net investment income

   $ 0.54      $ 1.11      $ (0.57      (51.4 )% 
  

 

 

    

 

 

    

 

 

    

 

 

 

Net (decrease) increase in net assets resulting from operations

     1.28        (0.22      1.50        NM  
  

 

 

    

 

 

    

 

 

    

 

 

 

NM = Not Meaningful

 

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Investment Income

Total investment income decreased by 8.6% for the year ended March 31, 2021 as compared to the prior year. This decrease was primarily due to a decrease in dividend and success fee income, as well as a decrease in interest income.

Interest income from our investments in debt securities decreased 4.8% for the year ended March 31, 2021, as compared to the prior year. During the year ended March 31, 2020, we received $2.1 million of past due interest upon the exit of our investment in Alloy Die Casting Co. (“ADC”). Generally, the level of interest income from investments is directly related to the principal balance of our interest-bearing investment portfolio outstanding during the period, multiplied by the weighted-average yield. The weighted-average principal balance of our interest-bearing investment portfolio during the year ended March 31, 2021 was $398.1 million, compared to $374.3 million during the prior year. This increase was primarily due to the origination of $93.8 million of new debt investments, $86.3 million of follow-on debt investments to existing portfolio companies, and $35.0 million of loans placed back on accrual status, partially offset by the pay-off, restructuring, or write-off of $109.2 million of debt investments and $47.9 million of loans placed on non-accrual status after March 31, 2019, and their respective impact on the weighted-average principal balance when considering the timing of new investments, pay-offs, restructurings, write-offs, and accrual status changes, as applicable. The weighted-average yield on our interest-bearing investments, excluding cash and cash equivalents and receipts recorded as other income, was 11.9% and 13.2% for the year ended March 31, 2021 and 2020, respectively. The weighted-average yield may vary from period to period, based on the current stated interest rate on interest-bearing investments.

As of March 31, 2021, our loans to B+T Group Acquisition, Inc. (“B+T”), Horizon Facilities Services, Inc. (“Horizon”) and The Mountain Corporation (“The Mountain”) were on non-accrual status, with an aggregate debt cost basis of $61.1 million. As of March 31, 2020, certain of our loans B+T, The Mountain, PSI Molded, and SOG Specialty Knives & Tools, LLC (“SOG”) were on non-accrual status, with an aggregate debt cost basis of $63.5 million.

Dividend and success fee income for the year ended March 31, 2021 decreased 23.5% from the prior year. During the year ended March 31, 2021, dividend and success fee income consisted of $7.1 million of dividend income and $2.4 million of success fee income. During the year ended March 31, 2020, dividend and success fee income consisted of $9.4 million of dividend income and $2.9 million of success fee income.

As of March 31, 2021 and 2020, no single investment represented greater than 10% of our total investment portfolio at fair value.

Expenses

Total expenses, net of any non-contractual, unconditional, and irrevocable credits from the Adviser, increased 51.4% for the year ended March 31, 2021, as compared to the prior year, primarily due to an increase in the capital gains-based incentive fee, interest and dividend expense, and a decrease in credits to fees from Adviser, partially offset by a decrease in the income-based incentive fee and in other expenses.

In accordance with GAAP, we recorded a capital gains-based incentive fee of $5.0 million during the year ended March 31, 2021, compared to a reversal of the capital gains-based incentive fee of $6.7 million during the year ended March 31, 2020. The capital gains-based incentive fee and any reversal is a result of the net impact of net realized gains (losses) and net unrealized appreciation (depreciation) on investments during the respective periods. The income-based incentive fee decreased during the year ended March 31, 2021, as compared to the prior year, as the decrease in pre-incentive fee net investment income more than offset the decrease in net assets, which drives the hurdle rate.

 

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The base management fee, loan servicing fee, incentive fee, and their related non-contractual, unconditional, and irrevocable credits are computed quarterly, as described under “Transactions with the Adviser” in Note 4 – Related Party Transactions in the accompanying Notes to Consolidated Financial Statements and are summarized in the following table:

 

     Year Ended March 31,  
     2021     2020  

Average total assets subject to base management fee(A)

   $ 605,750     $ 607,250  

Multiplied by annual base management fee of 2.0%

     2.0 %      2.0
  

 

 

   

 

 

 

Base management fee(B)

     12,115       12,145  

Credits to fees from Adviser—other(B)

     (2,949 )      (4,436
  

 

 

   

 

 

 

Net base management fee

   $ 9,166     $ 7,709  
  

 

 

   

 

 

 

Loan servicing fee(B)

   $ 7,082     $ 6,859  

Credits to base management fee—loan servicing fee(B)

     (7,082     (6,859
  

 

 

   

 

 

 

Net loan servicing fee

   $ —       $ —    
  

 

 

   

 

 

 

Incentive fee – income-based

   $ 3,746     $ 4,338  

Incentive fee – capital gains-based(C)

     5,032       (6,718
  

 

 

   

 

 

 

Total incentive fee(B)

     8,778       (2,380

Credits to fees from Adviser—other(B)

     —         —    
  

 

 

   

 

 

 

Net total incentive fee

   $ 8,778     $ (2,380
  

 

 

   

 

 

 

 

(A)

Average total assets subject to the base management fee is defined in the Advisory Agreement as total assets, including investments made with proceeds of borrowings, less any uninvested cash or cash equivalents resulting from borrowings, valued at the end of the applicable quarters within the respective periods and adjusted appropriately for any share issuances or repurchases during the periods.

(B)

Reflected as a line item on our accompanying Consolidated Statement of Operations.

(C)

The capital gains-based incentive fees are recorded in accordance with GAAP and do not necessarily reflect amounts contractually due under the terms of the Advisory Agreement.

Interest and dividend expense increased 6.5% during the year ended March 31, 2021, as compared to the prior year, due to a higher weighted-average balance outstanding on the Credit Facility, partially offset by a decrease in the effective interest rate. The weighted-average balance outstanding on the Credit Facility during the year ended March 31, 2021 was $82.6 million, as compared to $38.4 million in the prior year. The effective interest rate on the Credit Facility, excluding the impact of deferred financing costs, during the year ended March 31, 2021 was 4.3%, as compared to 9.4% in the prior year. This decrease in the effective interest rate on the Credit Facility was primarily a result of the decrease in unused commitment fee on the undrawn portion of the Credit Facility and a decrease in LIBOR.

Other expenses decreased 13.9% during the year ended March 31, 2021, as compared to the prior year, primarily due to a decrease in bad debt expense and tax expense.

Realized and Unrealized Gain (Loss), net of Taxes

Net Realized Gain (Loss) on Investments

During the year ended March 31, 2021, we recorded net realized gains on investments of $11.4 million, primarily related to a $14.3 million realized gain from the exit of Frontier, a $3.5 million realized gain from the recapitalization of Old World, and gains from previous exits, partially offset by an $8.5 million realized loss

 

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related to the partial write-off of a debt investment in SBS Industries. During the year ended March 31, 2020, we recorded net realized gains on investments of $44.8 million, primarily related to a $50.0 million realized gain from the exit of Nth Degree, Inc. (“Nth Degree”), a $20.4 million realized gain from the exit of ADC, and a $3.2 million realized gain from the exit of Jackrabbit Inc. (“Jackrabbit”), partially offset by a $14.5 million realized loss from the exit of B-Dry, LLC (“B-Dry”), a $13.0 million realized loss from the exit of Meridian, and a $2.7 million realized loss from the exit of Tread Corporation (“Tread”).

Taxes on Deemed Distribution of Long-Term Capital Gains

We did not elect to retain long-term capital gains and to treat them as deemed distributions to common stockholders for the year ended March 31, 2021. For the year ended March 31, 2020, we elected to retain $38.0 million of long-term capital gains and to treat them as deemed distributions to common stockholders. We incurred $8.0 million of federal income taxes on behalf of common stockholders for the year ended March 31, 2020. In addition, we incurred Virginia state taxes related to the deemed distribution of $2.3 million for the year ended March 31, 2020. Refer to Note 9 Distributions to Common Stockholders in the accompanying Notes to Consolidated Financial Statements for additional information.

Net Realized Gain (Loss) on Other

During the year ended March 31, 2021, we recorded a net realized loss on other of $0.8 million which primarily related to unamortized deferred issuance costs written off upon the redemption of our Series D Term Preferred Stock in March 2021. During the year ended March 31, 2020, there were no realized gains or losses on other.

 

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Net Unrealized Appreciation (Depreciation) of Investments

During the year ended March 31, 2021, we recorded net unrealized appreciation of investments of $13.9 million. The realized gains (losses) and unrealized appreciation (depreciation) across our investments for the year ended March 31, 2021 were as follows:

 

     Year Ended March 31, 2021  

Portfolio Company

   Realized
Gain

(Loss)
     Unrealized
Appreciation
(Depreciation)
     Reversal of
Unrealized
(Appreciation)
Depreciation
     Net Gain
(Loss)
 

Pioneer Square Brands, Inc.

   $ —        $ 26,410      $ —        $ 26,410  

Old World Christmas, Inc.

     3,544        6,840        —          10,384  

SOG Specialty Knives & Tools, LLC

     —          6,364        —          6,364  

Educators Resource, Inc.

     —          5,631        —          5,631  

Frontier Packaging, Inc.

     14,321        2,534        (11,869      4,986  

Schylling, Inc.

     —          3,604        —          3,604  

Head Country, Inc.

     —          2,974        —          2,974  

Ginsey Home Solutions, Inc.

     —          2,131        —          2,131  

Diligent Delivery Systems

     —          1,877        —          1,877  

ImageWorks Display and Marketing Group, Inc.

     —          1,554        —          1,554  

Horizon Facilities Services, Inc.

     —          963        —          963  

Cambridge Sound Management, Inc.

     739        —          —          739  

Alloy Die Casting Co.

     576        —          —          576  

Mason West, LLC

     —          (1,432      —          (1,432

Galaxy Tool Holding Corporation

     —          (1,528      —          (1,528

PSI Molded Plastics, Inc.

     —          (1,752      —          (1,752

The Maids International, LLC

     —          (1,779      —          (1,779

The Mountain Corporation

     —          (1,986      —          (1,986

Nth Degree Investment Group, LLC

     113        (3,649      —          (3,536

D.P.M.S., Inc.

     —          (5,045      —          (5,045

SBS Industries Holdings, Inc.

     (8,470      2,463        —          (6,007

Brunswick Bowling Products, Inc.

     —          (20,542      —          (20,542

Other, net (<$1.0 million, net )

     551        172        (11      712  
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 11,374      $ 25,804      $ (11,880    $ 25,298  
  

 

 

    

 

 

    

 

 

    

 

 

 

The primary drivers of net unrealized appreciation of investments of $13.9 million for the year ended March 31, 2021 were increased performance of certain of our portfolio companies and an increase in comparable multiples used to estimate the fair value of a majority of our portfolio companies, partially offset by the reversal of previously recorded unrealized appreciation upon the exit of one of our investments and a decrease in performance of certain of our other portfolio companies. The decrease in the performance of a limited number of our portfolio companies was driven by the continued impact COVID-19 has had or is expected to have on those portfolio companies and the markets in which they operate, including government restrictions on the portfolio companies’ ability to operate under historical conditions, shutdowns, demand for products, and general economic outlook.

 

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During the year ended March 31, 2020, we recorded net unrealized depreciation of investments of $78.1 million. The realized gains (losses) and unrealized appreciation (depreciation) across our investments for the year ended March 31, 2020 were as follows:

 

     Year Ended March 31, 2020  

Portfolio Company

   Realized
Gain

(Loss)
     Unrealized
Appreciation
(Depreciation)
     Reversal of
Unrealized
(Appreciation)
Depreciation
     Net Gain
(Loss)
 

Alloy Die Casting Co.

   $ 20,355      $ 8,823      $ (12,635    $ 16,543  

Galaxy Tool Holding Corporation

     —          12,849        —          12,849  

Nth Degree Investment Group, LLC

     49,975        1,978        (40,847      11,106  

Counsel Press, Inc.

     —          3,874        —          3,874  

D.P.M.S., Inc.

     —          3,681        —          3,681  

Old World Christmas, Inc.

     —          3,679        —          3,679  

Tread Corporation

     (2,726      —          3,380        654  

Drew Foam Companies, Inc.

     565        —          —          565  

B-Dry, LLC

     (14,452      —          14,699        247  

The Maids International, LLC

     —          (1,301      —          (1,301

Jackrabbit, Inc.

     3,198        —          (4,547      (1,349

B+T Group Acquisition, Inc.

     —          (1,534      —          (1,534

Frontier Packaging, Inc.

        (1,649      —          (1,649

PSI Molded Plastics, Inc.

     —          (1,904      —          (1,904

Diligent Delivery Systems

     —          (2,192      —          (2,192

The Mountain Corporation

     —          (2,597      —          (2,597

Pioneer Square Brands, Inc.

     —          (3,200      —          (3,200

SOG Specialty Knives & Tools, LLC

     —          (3,449      —          (3,449

Brunswick Bowling Products, Inc.

     —          (3,900      —          (3,900

Educators Resource, Inc.

     —          (4,460      —          (4,460

Edge Adhesives Holdings, Inc.

     —          (4,741      —          (4,741

Meridian Rack & Pinion, Inc.

     (13,040      (5,796      13,041        (5,795

Horizon Facilities Services, Inc.

     —          (7,381      —          (7,381

SBS Industries Holdings, Inc.

     —          (8,948      —          (8,948

Ginsey Home Solutions, Inc.

     —          (9,426      —          (9,426

J.R. Hobbs Co.—Atlanta, LLC

     —          (22,822      —          (22,822

Other, net (<$1.0 million, net )

     928        (684      (130      114  
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 44,803      $ (51,100    $ (27,039    $ (33,336
  

 

 

    

 

 

    

 

 

    

 

 

 

The primary drivers of net unrealized depreciation of investments of $78.1 million for the year ended March 31, 2020 were decreased performance of certain of our portfolio companies, a decrease in comparable multiples used to estimate the fair value of a majority of our portfolio companies, and the reversal of previously recorded unrealized appreciation of certain investments upon their exit, partially offset by the reversal of previously recorded unrealized depreciation upon the exit of certain of our investments and an increase in performance of certain of our other portfolio companies. In part, the decrease in multiples used to estimate the fair value, and to a lesser extent the performance of certain of our portfolio companies was driven by the impact COVID-19 has had or is expected to have on our portfolio companies and the markets in which they operate, including government restrictions on the portfolio companies’ ability to operate under historical conditions, shutdowns, demand for products, and general economic outlook.

Across our entire investment portfolio, we recorded $14.5 million of net unrealized appreciation on our equity investments and $0.6 million of net unrealized depreciation on our debt investments for the year ended March 31, 2021. At March 31, 2021, the fair value of our investment portfolio was less than our cost basis by $29.7 million,

 

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as compared to March 31, 2020, when the fair value of our investment portfolio was less than our cost basis by $43.7 million, representing net unrealized appreciation of $13.9 million for the year ended March 31, 2021. Our entire portfolio was fair valued at 95.5% of cost as of March 31, 2021.

The comparison of the fiscal year ended March 31, 2020 to the fiscal year ended March 31, 2019 can be found in our Annual Report on Form 10-K for the fiscal year ended March 31, 2020 located within Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations, which is incorporated by reference herein.

LIQUIDITY AND CAPITAL RESOURCES

Operating Activities

Cash inflows from operating activities are primarily generated from cash collections of interest and other income from our portfolio companies, as well as from cash proceeds received from repayments of debt investments and from sales of equity investments. These cash collections are principally used to fund new investments, pay distributions to our common stockholders, make interest payments on the Credit Facility and the 2026 Notes, make dividend payments on our mandatorily redeemable preferred stock, pay management and incentive fees to the Adviser, and for other operating expenses. We may also use cash inflows from operating activities to repay outstanding borrowings under the Credit Facility.

Net cash used in operating activities for the year ended March 31, 2021 was $29.7 million, as compared to net cash provided by operating activities of $35.3 million for the year ended March 31, 2020. This change was primarily due to decreases in principal repayments of investments and net proceeds from the sale of investments and a decline in Other liabilities, principally due to $13.3 million of tax payments made related to prior year deemed distributions, partially offset by a decline in purchases of investments, and an increase in Fees due to Adviser related to the prior year payment of $8.1 million of capital gains-based incentive fees that were contractually due period over period. Purchases of investments totaled $95.3 million during the year ended March 31, 2021, compared to $145.4 million during the year ended March 31, 2020. Repayments and net proceeds from the sale of investments totaled $51.8 million during the year ended March 31, 2021, compared to $169.9 million during the year ended March 31, 2020.

Net cash provided by operating activities for the year ended March 31, 2020 was $35.3 million, as compared to net cash provided by operating activities of $93.6 million for the year ended March 31, 2019. This change was primarily due to higher purchases of investments, a decrease in Fees due to Adviser related to the payment of $8.1 million of capital gains-based incentive fees that were contractually due, and a decline in Other liabilities due to a $10.5 million federal tax payment made related to the March 31, 2019 deemed distribution, partially offset by increased repayments and net proceeds from the sale of investments period over period. Purchases of investments totaled $145.4 million during the year ended March 31, 2020, compared to $91.9 million during the year ended March 31, 2019. Repayments and net proceeds from the sale of investments totaled $169.9 million during the year ended March 31, 2020, compared to $154.7 million during the year ended March 31, 2019.

 

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As of March 31, 2021, we had equity investments in, or loans to, 28 companies with an aggregate cost basis of $663.6 million. As of March 31, 2020, we had equity investments in, or loans to, 28 companies with an aggregate cost basis of $609.6 million. The following table summarizes our total portfolio investment activity for the years ended March 31, 2021 and 2020:

 

     Years Ended March 31,  
     2021     2020  

Beginning investment portfolio, at fair value

   $ 565,924     $ 624,172  

New investments

     46,902       79,080  

Disbursements to existing portfolio companies

     48,370       66,369  

Unscheduled principal repayments

     (20,734     (79,997

Net proceeds from sales of investments

     (29,689     (89,184

Net realized gain on investments

     9,114       43,605  

Net unrealized appreciation (depreciation) of investments

     25,805       (51,100

Reversal of net unrealized appreciation of investments

     (11,881     (27,039

Amortization of premiums, discounts, and acquisition costs, net

     18       18  
  

 

 

   

 

 

 

Ending investment portfolio, at fair value

   $ 633,829     $ 565,924  
  

 

 

   

 

 

 

The following table summarizes the contractual principal repayment and maturity of our investment portfolio by fiscal year, assuming no voluntary prepayments, as of March 31, 2021:

 

        Amount  
For the fiscal years ending March 31:   2022   $ 38,670  
  2023     119,200  
  2024     118,350  
  2025     165,278  
  2026     52,250  
  Thereafter     —    
   

 

 

 
      Total contractual repayments   $ 493,748  
  Adjustments to cost basis of debt investments     (30
  Investments in equity securities     169,845  
   

 

 

 
      Total cost basis of investments held as of March 31, 2021:   $ 663,563  
   

 

 

 

Financing Activities

Net cash provided by financing activities for the year ended March 31, 2021 was $28.1 million, which was primarily a result of $127.9 million in gross proceeds from the issuance of our 2026 Notes, $19.3 million of gross proceeds from the issuance of mandatorily redeemable preferred stock under the Series E ATM program, and $1.8 million of gross proceeds from the issuance of common stock under the Common Stock ATM Program, partially offset by the redemption of our Series D Term Preferred Stock of $57.5 million, $30.9 million in distributions to common stockholders, $26.8 million of net repayments on our Credit Facility, and $5.7 million of deferred financing and offering costs.

Net cash used in financing activities for the year ended March 31, 2020 was $34.9 million, which was primarily a result of $33.9 million in distributions to common stockholders and $3.8 million of net repayments on our Credit Facility, partially offset by $3.1 million of net proceeds from the issuance of common stock under the Common Stock ATM Program.

 

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Net cash used in financing activities for the year ended March 31, 2019 was $94.0 million, which was primarily a result of the redemption of our Series B Term Preferred Stock and Series C Term Preferred Stock of $81.7 million, $54.0 million of net repayments on the Credit Facility, and $30.5 million in distributions to common stockholders, partially offset by $72.1 million of net proceeds from the issuance of our Series E Term Preferred Stock and $1.8 million of net proceeds from the issuance of common stock under the Common Stock ATM Program.

Distributions and Dividends to Stockholders

Common Stock Distributions

To qualify to be taxed as a RIC and thus avoid corporate level federal income tax on the income we distribute to our stockholders, we are required, among other requirements, to distribute to our stockholders on an annual basis at least 90% of our Investment Company Taxable Income, determined without regard to the dividends paid deduction. Additionally, the Credit Facility generally restricts the amount of distributions to stockholders that we can pay out to be no greater than the sum of certain amounts, including our net investment income, plus net capital gains, plus amounts elected by the Company to be considered as having been paid during the prior fiscal year in accordance with Section 855(a) of the Code. In accordance with these requirements, our Board of Directors declared, and we paid, monthly cash distributions of $0.07 per common share and a supplemental distribution of $0.09 per common share in June 2020. See also “Recent Developments—Distributions and Dividends” for a discussion of cash distributions to common stockholders declared by our Board of Directors in April 2021.

For each of the fiscal years ended March 31, 2021 and 2020, Investment Company Taxable Income exceeded distributions declared and paid, and, in accordance with Section 855(a) of the Code, we elected to treat $16.1 million and $17.9 million, respectively, of the first distributions paid subsequent to fiscal year-end as having been paid in the prior year. In addition, for each of the fiscal years ended March 31, 2021 and 2020, net capital gains exceeded distributions declared and paid, and, in accordance with Section 855(a) of the Code, we elected to treat $8.5 million and $5.3 million, respectively, of the first distributions paid subsequent to fiscal year-end as having been paid in the prior year. For the year ended March 31, 2021, we recorded $2.0 million of net adjustments for estimated permanent book-tax differences to reflect tax character, which decreased Capital in excess of par value and Accumulated net realized gain in excess of distributions and increased Underdistributed net investment income. For the year ended March 31, 2020, we recorded $6.5 million of net adjustments for estimated permanent book-tax differences to reflect tax character, which decreased Capital in excess of par value and increased Underdistributed net investment income and Accumulated net realized gain in excess of distributions.

Preferred Stock Dividends

Our Board of Directors declared and we paid monthly cash dividends of (i) $0.13020833 per share to holders of our Series D Term Preferred Stock per month for April 2020 through February 2021 and $0.008680555 per share of our Series D Term Preferred Stock for the period from March 1, 2021 up to, but excluding, the redemption date of March 3, 2021, and (ii) $0.1328125 per share to holders of our Series E Term Preferred Stock for each of the twelve months from April 2020 through March 2021. In accordance with GAAP, we treat these monthly dividends as an operating expense. See also “Recent Developments—Distributions and Dividends” for a discussion of dividends to preferred stockholders declared by our Board of Directors in April 2021.

Dividend Reinvestment Plan

Our common stockholders who hold their shares through our transfer agent, Computershare, Inc. (“Computershare”), have the option to participate in a dividend reinvestment plan offered by Computershare, as the plan agent. This is an “opt in” dividend reinvestment plan, meaning that common stockholders may elect to

 

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have their cash distributions automatically reinvested in additional shares of our common stock. Common stockholders who do not make such election will receive their distributions in cash. Any distributions reinvested under the plan will be taxable to a common stockholder to the same extent, and with the same character, as if the common stockholder had received the distribution in cash. The common stockholder generally will have an adjusted basis in the additional common shares purchased through the plan equal to the dollar amount that would have been received if the U.S. stockholder had received the dividend or distribution in cash. The additional common shares will have a new holding period commencing on the day following the date on which the shares are credited to the common stockholder’s account. Computershare purchases shares in the open market in connection with the obligations under the plan. The Computershare dividend reinvestment plan is not open to holders of our preferred stock.

Registration Statement

On June 14, 2019, we filed a registration statement on Form N-2 (File No. 333-232124), which the SEC declared effective on July 24, 2019. The registration statement permits us to issue, through one or more transactions, up to an aggregate of $300.0 million in securities, consisting of common stock, preferred stock, subscription rights, debt securities, and warrants to purchase common stock, preferred stock, or debt securities, including through concurrent, separate offerings of such securities. As of March 31, 2021, we had the ability to issue up to $147.5 million in securities under the registration statement.

Equity

Common Stock

In December 2019, we entered into equity distribution agreements with Wedbush Securities, Inc., Cantor Fitzgerald & Co., and Ladenburg Thalmann & Co., Inc. (each, a “Common Stock ATM Sales Agent”), under which we have the ability to issue and sell shares of our common stock, from time to time, through the Common Stock Sales Agents, up to an aggregate offering price of $35.0 million in the Common Stock ATM Program. As of March 31, 2021, we had remaining capacity to sell up to $30.1 million of common stock under the Common Stock ATM Program.

During the year ended March 31, 2021, we sold 155,560 shares of our common stock under the Common Stock ATM Program at a weighted-average gross price of $11.39 per share and raised approximately $1.8 million of gross proceeds. The weighted-average net price per share, after deducting commissions and offering costs borne by us, was $11.17 and resulted in total net proceeds of approximately $1.7 million. These sales were above our then current estimated NAV per share.

During the year ended March 31, 2020, we sold 227,004 shares of our common stock under the Common Stock ATM Program at a weighted-average gross price of $13.80 per share and raised approximately $3.1 million of gross proceeds. The weighted-average net price per share, after deducting commissions and offering costs borne by us, was $13.55 and resulted in total net proceeds of approximately $3.1 million. These sales were above our then current estimated NAV per share.

During the year ended March 31, 2019, we sold 168,824 shares of our common stock under the Common Stock ATM Program at a weighted-average gross price of $11.09 per share and raised approximately $1.9 million of gross proceeds. The weighted-average net price per share, after deducting commissions and offering costs borne by us, was $10.87 and resulted in total net proceeds of approximately $1.8 million. Certain of these sales were below our then-current estimated NAV per share during the sales period, with a discount of $0.002 per share, when comparing the sales price per share, after deducting commissions, to the then-current estimated NAV per share; however, the net dilutive effect (after commissions and offering costs borne by us) of these sales was $0.00 per common share as a result of the small number of shares sold at a slight discount to NAV per share and resulting rounding. In aggregate, the sales during the year ended March 31, 2019 were above our then-current estimated NAV per share.

 

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We anticipate issuing equity securities to obtain additional capital in the future. However, we cannot determine the timing or terms of any future equity issuances or whether we will be able to issue equity on terms favorable to us, or at all. When our common stock is trading at a price below NAV per share, the 1940 Act places regulatory constraints on our ability to obtain additional capital by issuing common stock. Generally, the 1940 Act provides that we may not issue and sell our common stock at a price below our NAV per common share, other than to our then existing common stockholders pursuant to a rights offering, without first obtaining approval from our stockholders and our independent directors and meeting other stated requirements. On March 31, 2021, the closing market price of our common stock was $12.23 per share, representing a 6.2% premium to our NAV per share of $11.52 as of March 31, 2021.

At our 2020 Annual Meeting of Stockholders held on August 20, 2020, our stockholders approved a proposal authorizing us with the subsequent approval of our Board of Directors, to issue and sell shares of our common stock at a price below our then current NAV per common share for a period of one year from the date of such approval, provided that the number of shares issued and sold pursuant to such authority does not exceed 25.0% of our then-outstanding common stock immediately prior to each such sale. At our 2021 Annual Meeting of Stockholders, scheduled to take place in August 2021, we intend to ask our stockholders to vote in favor of a similar proposal so that it may be in effect for another year.

Term Preferred Stock

In August 2018, we completed a public offering of 2,990,000 shares of our Series E Term Preferred Stock at a public offering price of $25.00 per share. Gross proceeds totaled $74.8 million and net proceeds, after deducting underwriting discounts and offering costs borne by us, were $72.1 million. Total underwriting discounts and offering costs related to this offering were $2.7 million, which have been recorded as discounts to the liquidation value on our accompanying Consolidated Statements of Assets and Liabilities and are being amortized over the period ending August 31, 2025, the mandatory redemption date.

Our Series E Term Preferred Stock is not convertible into our common stock or any other security and provides for a fixed dividend equal to 6.375% per year, payable monthly (which equates to $6.0 million per year). We are required to redeem all outstanding shares of our Series E Term Preferred Stock on August 31, 2025, for cash at a redemption price equal to $25.00 per share, plus an amount equal to accumulated but unpaid dividends, if any, to, but excluding, the date of redemption. In addition, two other potential mandatory redemption triggers are as follows: (1) upon the occurrence of certain events that would constitute a change in control of us, we would be required to redeem all of our outstanding Series E Term Preferred Stock, and (2) if we fail to maintain asset coverage as required by Sections 18 and 61 of the 1940 Act (which is currently 150%) and are unable to correct such failure within a specific amount of time, we are required to redeem a portion of our outstanding Series E Term Preferred Stock or otherwise cure the asset coverage redemption trigger (we may also redeem additional securities to cause asset coverage to be up to 200%). We may also voluntarily redeem all or a portion of our Series E Term Preferred Stock at our sole option at the redemption price at any time.

In August 2018, we used the proceeds from the issuance of our Series E Term Preferred Stock, along with borrowings under the Credit Facility, to voluntarily redeem all outstanding shares of our Series B Term Preferred Stock and Series C Term Preferred Stock, each of which had a liquidation preference of $25.00 per share. In connection with the voluntary redemption of our Series B Term Preferred Stock and our Series C Term Preferred Stock, we incurred a loss on extinguishment of debt of $1.7 million, which was recorded in Realized loss on other in our accompanying Consolidated Statements of Operations and which was primarily comprised of unamortized deferred issuance costs at the time of redemption.

In May 2020, we entered into sales agreements with Wedbush Securities, Inc. and Virtu Americas LLC (each a “Series E ATM Sales Agent”), under which we have the ability to issue and sell shares of our Series E Term Preferred Stock, from time to time, through the Series E ATM Sales Agents, up to $50.0 million aggregate liquidation preference in the Series E ATM Program. As of March 31, 2021, we had remaining capacity to sell up to $30.4 million of our Series E Term Preferred Stock under the Series E ATM Program.

 

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During the year ended March 31, 2021, we sold 784,853 shares of our Series E Term Preferred Stock under the Series E ATM Program with an aggregate liquidation preference of $19.6 million. The weighted-average gross price per share net of discounts was $24.56 and resulted in gross proceeds of approximately $19.3 million. After deducting commissions and offering costs borne by us, net proceeds totaled approximately $19.1 million.

In March 2021, we used a portion of the proceeds from the issuance of our 2026 Notes, to voluntarily redeem all outstanding shares of our Series D Term Preferred Stock, which had a liquidation preference of $25.00 per share. In connection with the voluntary redemption, we incurred a loss on extinguishment of debt of $0.8 million, which was recorded in Realized loss on other in our accompanying Consolidated Statements of Operations and which was primarily comprised of unamortized deferred issuance costs at the time of redemption.

Our mandatorily redeemable preferred stock has a preference over our common stock with respect to dividends, whereby no distributions are payable on our common stock unless the stated dividends, including any accrued and unpaid dividends, on the mandatorily redeemable preferred stock have been paid in full. The Series E Term Preferred Stock are considered liabilities in accordance with GAAP and, as such, affect our asset coverage, exposing us to additional leverage risks. The asset coverage on our senior securities that are stock (our Series E Term Preferred Stock) as of March 31, 2021 was 248.6%, calculated pursuant to Sections 18 and 61 of the 1940 Act.

Revolving Line of Credit

On March 8, 2021, we, through our wholly-owned subsidiary, Business Investment, entered into Amendment No. 6 to the Fifth Amended and Restated Credit Agreement, originally entered into on April 30, 2013, with KeyBank National Association (“KeyBank”) as administrative agent, lead arranger, managing agent and lender, the Adviser, as servicer, and certain other lenders party thereto. The revolving period was extended to February 29, 2024, and if not renewed or extended by such date, all principal and interest will be due and payable on February 28, 2026 (two years after the revolving period end date). As of March 31, 2021, the Credit Facility provided two one-year extension options that may be exercised on or before the first and second anniversary of March 8, 2021, subject to approval by all lenders. Additionally, as part of this amendment, the COVID-19 Relief Period (described below) was extended to September 30, 2021. We incurred fees of approximately $1.0 million in connection with this amendment.

On August 10, 2020, we, through Business Investment, entered into Amendment No. 5 to the Credit Facility. Among other things, Amendment No. 5 amended the Credit Facility to (i) add LIBOR replacement language; (ii) implement a 0.5% LIBOR floor; (iii) reduce the facility size from $200.0 million to $180.0 million, which may be expanded to $300.0 million through additional commitments; and (iv) provide certain other changes to existing terms and covenants. In addition, Amendment No. 5 provided for certain temporary changes during the COVID-19 Relief Period (August 10, 2020 until March 31, 2021, which may be extended, subject to certain conditions) including: (i) amending the definition of “Effective Advance Rate,” provided that during such period the overall effective advance rate does not exceed 55%; and (ii) removing or changing certain “Excess Concentration Limits” (as defined in the Credit Facility).

Advances under the Credit Facility generally bear interest at 30-day LIBOR, subject to a floor of 0.5%, plus 2.85% per annum until February 29, 2024, with the margin then increasing to 3.10% for the period from February 29, 2024 to February 28, 2025, and increasing further to 3.35% thereafter. The Credit Facility has an unused commitment fee on the daily unused commitment amount of 0.50% per annum if the average unused commitment amount for the period is less than or equal to 50% of the total commitment amount, 0.75% per annum if the average unused commitment amount for the period is greater than 50% but less than or equal to 65% of the total commitment amount, and 1.00% per annum if the average unused commitment amount for the period is greater than 65% of the total commitment amount.

 

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Interest is payable monthly during the term of the Credit Facility. Available borrowings are subject to various constraints and applicable advance rates, which are generally based on the size, characteristics, and quality of the collateral pledged by Business Investment. The Credit Facility also requires that any interest and principal payments on pledged loans be remitted directly by the borrower into a lockbox account with KeyBank. KeyBank is also the trustee of the account and generally remits the collected funds to us once a month.

Among other things, the Credit Facility contains covenants that require Business Investment to maintain its status as a separate legal entity, prohibit certain significant corporate transactions (such as mergers, consolidations, liquidations or dissolutions) and restrict certain material changes to our credit and collection policies without the lenders’ consent. The Credit Facility also generally seeks to restrict distributions to stockholders to the sum of (i) our net investment income, (ii) net capital gains, and (iii) amounts deemed by the Company to be considered as having been paid during the prior fiscal year in accordance with Section 855(a) of the Code. Loans eligible to be pledged as collateral are subject to certain limitations, including, among other things, restrictions on geographic concentrations, industry concentrations, loan size, payment frequency and status, average life, portfolio company leverage, and lien property. The Credit Facility also requires Business Investment to comply with other financial and operational covenants, which obligate Business Investment to, among other things, maintain certain financial ratios, including asset and interest coverage and a minimum number of obligors required in the borrowing base. Additionally, the Credit Facility contains a performance guaranty that requires the Company to maintain (i) a minimum net worth (defined in the Credit Facility to include our mandatory redeemable term preferred stock) of the greater of $210.0 million or $210.0 million plus 50% of all equity and subordinated debt raised minus 50% of any equity or subordinated debt redeemed or retired after November 16, 2016, which equated to $266.2 million as of March 31, 2021, (ii) asset coverage with respect to senior securities representing indebtedness of at least 150% (or such percentage as may be set forth in Section 18 of the 1940 Act, as modified by Section 61 of the 1940 Act), and (iii) our status as a BDC under the 1940 Act and as a RIC under the Code. As of March 31, 2021, and as defined in the performance guaranty of the Credit Facility, we had a net worth of $597.1 million, asset coverage on our senior securities representing indebtedness of 398.0%, calculated in accordance with the requirements of Sections 18 and 61 of the 1940 Act, and an active status as a BDC and RIC. As of March 31, 2021, we had availability, after adjustments for various constraints based on collateral quality, of $157.6 million under the Credit Facility and were in compliance with all covenants under the Credit Facility.

Notes Payable

In March 2021, we completed a public offering of the 2026 Notes with an aggregate principal amount of $127.9 million, which resulted in net proceeds of approximately $123.8 million after deducting underwriting discounts, commissions and offering costs borne by us. The 2026 Notes are traded under the ticker symbol “GAINN” on Nasdaq. The 2026 Notes will mature on May 1, 2026 and may be redeemed in whole or in part at any time or from time to time at the Company’s option on or after May 1, 2023. The 2026 Notes bear interest at a rate of 5.00% per year (which equates to $6.4 million per year), payable quarterly in arrears.

The indenture relating to the 2026 Notes contains certain covenants, including (i) an inability to incur additional debt or issue additional debt or preferred securities unless the Company’s asset coverage meets the threshold specified in the 1940 Act after such borrowing, (ii) an inability to declare any dividend or distribution (except a dividend payable in our stock) on a class of our capital stock or to purchase shares of our capital stock unless the Company’s asset coverage meets the threshold specified in the 1940 Act at the time of (and giving effect to) such declaration or purchase, and (iii) if, at any time, we are not subject to the reporting requirements of the Exchange Act, we will provide the holders of the 2026 Notes, as applicable, and the trustee with audited annual consolidated financial statements and unaudited interim consolidated financial statements.

The 2026 Notes are recorded at the aggregate principal amount, less underwriting discounts, commissions, and offering costs, on our accompanying Consolidated Statements of Assets and Liabilities. Total underwriting discounts, commissions, and offering costs related to this offering were $4.1 million, which have been recorded

 

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as discounts to the aggregate principal amount on our accompanying Consolidated Statements of Assets and Liabilities and are being amortized over the period ending May 1, 2026, the maturity date.

OFF-BALANCE SHEET ARRANGEMENTS

Unlike PIK income, we generally do not recognize success fees as income until payment has been received. Due to the contingent nature of success fees, there are no guarantees that we will be able to collect any or all of these success fees or know the timing of any such collections. As a result, as of March 31, 2021 and 2020, we had unrecognized, contractual off-balance sheet success fee receivables of $46.2 million and $37.6 million (or approximately $1.39 and $1.14 per common share), respectively, on our debt investments. Consistent with GAAP, we have not recognized success fee receivables and related income in our accompanying Consolidated Financial Statements until earned.

CONTRACTUAL OBLIGATIONS

We have line of credit and delayed draw term loan commitments to certain of our portfolio companies that have not been fully drawn. Since these line of credit and delayed draw term loan commitments have expiration dates and we expect many will never be fully drawn, the total line of credit and delayed draw term loan commitment amounts do not necessarily represent future cash requirements. We estimate the fair value of the combined unused line of credit and delayed draw term loan commitments as of March 31, 2021 to be immaterial.

As of March 31, 2021, we have also extended a guaranty on behalf of one of our portfolio companies, CCE, whereby we have guaranteed $1.0 million of CCE’s obligations. As of March 31, 2021, we have not been required to make payments on this or any previous guaranties, and we consider the credit risks to be remote and the fair value of this guaranty to be immaterial.

The following table shows our contractual obligations as of March 31, 2021, at cost/liquidation preference:

 

     Payments Due by Period  

Contractual Obligations(A)

   Total      Less
than 1
Year
     1-3
Years
     3-5 Years      More
than 5
Years
 

Credit Facility(B)

   $ 22,400      $ —        $ —        $ 22,400      $ —    

Notes payable

     127,938        —          —          —          127,938  

Mandatorily redeemable preferred stock

     94,371        —          —          94,371        —    

Secured borrowing

     5,096        —          —          5,096        —    

Interest payments on obligations(C)

     72,049        15,133        30,274        26,109        533  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 321,854      $ 15,133      $ 30,274      $ 147,976      $ 128,471  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

(A)

Excludes unused line of credit and delayed draw term loan commitments and guaranties to our portfolio companies in the aggregate principal amount of $4.0 million.

(B)

Principal balance of borrowings outstanding under the Credit Facility, based on the maturity date following the current contractual revolving period end date.

(C)

Includes interest payments due on the Credit Facility, 2026 Notes, and secured borrowing and dividend obligations on each series of our mandatorily redeemable preferred stock, as applicable. The amount of interest payments calculated for purposes of this table was based upon rates and outstanding balances as of March 31, 2021. Dividend obligations on our mandatorily redeemable preferred stock assume quarterly declarations and monthly dividend payments through the date of mandatory redemption of each series.

 

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Critical Accounting Policies

The preparation of financial statements and related disclosures in conformity with GAAP requires management to make estimates and assumptions that affect the reported consolidated amounts of assets and liabilities, including disclosure of contingent assets and liabilities at the date of the financial statements, and revenues and expenses during the period reported. Actual results could differ materially from those estimates under different assumptions or conditions. We have identified our investment valuation policy (which has been approved by our Board of Directors) as our most critical accounting policy, which is described in Note 2—Summary of Significant Accounting Policies in the accompanying Notes to Consolidated Financial Statements included elsewhere in this Annual Report. Additionally, refer to Note 3 — Investments in the accompanying Notes to Consolidated Financial Statements included elsewhere in this Annual Report for additional information regarding fair value measurements and our application of Financial Accounting Standards Board Accounting Standards Codification Topic 820, “Fair Value Measurements and Disclosures.” We have also identified our revenue recognition policy as a critical accounting policy, which is described in Note 2— Summary of Significant Accounting Policies in the accompanying Notes to Consolidated Financial Statements included elsewhere in this Annual Report.

Investment Valuation

Credit Monitoring and Risk Rating

The Adviser monitors a wide variety of key credit statistics that provide information regarding our portfolio companies to help us assess credit quality and portfolio performance and, in some instances, are used as inputs in our valuation techniques. Generally, we, through the Adviser, participate in periodic board meetings of our portfolio companies in which we hold board seats and also require them to provide annual audited and monthly unaudited financial statements. Using these statements or comparable information and board discussions, the Adviser calculates and evaluates certain credit statistics.

The Adviser risk rates all of our investments in debt securities. The Adviser does not risk rate equity securities. For loans that have been rated by a SEC-registered Nationally Recognized Statistical Rating Organization (“NRSRO”), the Adviser generally uses the average of two corporate level NRSRO’s risk ratings for such security. For all other debt securities, the Adviser uses a proprietary risk rating system. While the Adviser seeks to mirror the NRSRO systems, we cannot provide any assurance that the Adviser’s risk rating system will provide the same risk rating as an NRSRO for these securities. The Adviser’s risk rating system is used to estimate the probability of default on debt securities and the expected loss, if there is a default. The Adviser’s risk rating system uses a scale of 0 to >10, with >10 being the lowest probability of default. It is the Adviser’s understanding that most debt securities of Lower Middle Market companies do not exceed the grade of BBB on an NRSRO scale, so there would be no debt securities in the Lower Middle Market that would meet the definition of AAA, AA or A. Therefore, the Adviser’s scale begins with the designation >10 as the best risk rating which may be equivalent to a BBB from an NRSRO; however, no assurance can be given that a >10 on the Adviser’s scale is equal to a BBB or Baa2 on an NRSRO scale. The Adviser’s risk rating system covers both qualitative and quantitative aspects of the business and the securities we hold.

The following table reflects risk ratings for all loans in our portfolio as of March 31, 2021 and 2020:

 

     As of March 31,  

Rating

   2021      2020  

Highest

     9.0        9.0  

Average

     6.2        6.5  

Weighted-average

     6.6        6.9  

Lowest

     4.0        4.0  

 

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Tax Status

We intend to continue to maintain our qualification as a RIC under Subchapter M of the Code for U.S. federal income tax purposes. As a RIC, we generally are not subject to U.S. federal income tax on the portion of our taxable income and gains distributed to our stockholders. To maintain our qualification as a RIC, we must maintain our status as a BDC and meet certain source-of-income and asset diversification requirements. In addition, to qualify to be taxed as a RIC, we must distribute to stockholders at least 90% of our Investment Company Taxable Income, determined without regard to the dividends paid deduction. Our policy generally is to make distributions to our stockholders in an amount up to 100% of Investment Company Taxable Income. We may retain some or all of our net long-term capital gains, if any, and designate them as deemed distributions, or distribute such gains to stockholders in cash. See “Business — Material U.S. Federal Income Tax Considerations” and Liquidity and Capital Resources — Distributions and Dividends to Stockholders.

In an effort to limit federal excise taxes, we have to distribute to stockholders, during each calendar year, an amount close to the sum of: (1) 98% of our ordinary income for the calendar year, (2) 98.2% of our net capital gains (both long-term and short-term), if any, for the one-year period ending on October 31 of the calendar year, and (3) any income realized, but not distributed, in the preceding period (to the extent that income tax was not imposed on such amounts), less certain reductions, as applicable. Under the RIC Modernization Act, we are permitted to carryforward any capital losses that we may incur for an unlimited period, and such capital loss carryforwards will retain their character as either short-term or long-term capital losses. Our capital loss carryforward balance was $0 as of both March 31, 2021 and 2020.

Recent Accounting Pronouncements

Refer to Note 2 — Summary of Significant Accounting Policies in the accompanying Notes to Consolidated Financial Statements included elsewhere in this Annual Report for a description of recent accounting pronouncements.

 

ITEM 7A.

QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Market risk includes risks that arise from changes in interest rates, foreign currency exchange rates, commodity prices, equity prices and other market changes that affect market sensitive instruments. The prices of securities held by us may decline in response to certain events, including those directly involving the companies whose securities are owned by us; conditions affecting the general economy, including COVID-19 or other health emergencies; overall market changes; local, regional or global political, social or economic instability; and interest rate fluctuations.

The primary risk we believe we are exposed to is interest rate risk. Because we borrow money to make investments, our net investment income is dependent upon the difference between the rates at which we borrow funds, such as under the Credit Facility (which is variable), our 2026 Notes (which is fixed), and our mandatorily redeemable preferred stock (which are fixed), and the rates at which we invest those funds. As a result, there can be no assurance that a significant change in market interest rates will not have a material adverse effect on our net investment income. We use a combination of debt and equity capital to finance our investing activities. We may use interest rate risk management techniques to limit our exposure to interest rate fluctuations. Such techniques may include various interest rate hedging activities to the extent permitted by the 1940 Act.

 

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We target to have approximately 90% of the loans in our portfolio at variable rates or variable rates with a floor mechanism, and approximately up to 10% at fixed rates. As of March 31, 2021 and 2020, all of our variable-rate loans have rates associated with the current 30-day LIBOR rate and our total debt investment portfolio consisted of the following breakdown based on the principal balance:

 

     2021     2020  

Rates:

    

Variable rates with a floor

     97.7     97.5

Fixed rates

     2.3       2.5  
  

 

 

   

 

 

 

Total

     100.0     100.0
  

 

 

   

 

 

 

We had outstanding borrowings under the Credit Facility of $22.4 million and $49.2 million as of March 31, 2021 and 2020, respectively. Our 2026 Notes had an outstanding principal balance of $127.9 million as of March 31, 2021. Our mandatorily redeemable preferred stock had an outstanding aggregate liquidation preference of $94.4 million and $132.3 million as of March 31, 2021 and 2020, respectively.

Advances under the Credit Facility generally bear interest at 30-day LIBOR, subject to a floor of 0.5%, plus 2.85% per annum until February 29, 2024, with the margin then increasing to 3.10% for the period from February 29, 2024 to February 28, 2025, and increasing further to 3.35% thereafter. The Credit Facility has an unused commitment fee on the daily unused commitment amount of 0.50% per annum if the average unused commitment amount for the period is less than or equal to 50% of the total commitment amount, 0.75% per annum if the average unused commitment amount for the period is greater than 50% but less than or equal to 65% of the total commitment amount, and 1.00% per annum if the average unused commitment amount for the period is greater than 65% of the total commitment amount.

To illustrate the potential impact of changes in interest rates, we have performed the following hypothetical analysis, which assumes that our balance sheet and interest rates remain constant as of March 31, 2021 and no further actions are taken to alter our existing interest rate sensitivity.

 

Basis Point Change(A)

   Increase (Decrease)
in Interest Income
     Increase (Decrease)
in Interest Expense
     Net Increase (Decrease)
in Net Assets Resulting
from Operations
 

Up 300 basis points

   $ 5,385      $ 593      $ 4,792  

Up 200 basis points

     1,511        366        1,145  

Up 100 basis points

     57        139        (82

Down 11 basis points

     —          —          —    

 

(A)

As of March 31, 2021, our effective average LIBOR was 0.11%; therefore, the largest decrease in basis points that could occur was 11 basis points. As this decrease is below the LIBOR floors of our loan portfolio and our Credit Facility as of March 31, 2021, such decrease would not impact the categories listed above.

Although management believes that this analysis is indicative of our existing interest rate sensitivity, it does not adjust for potential changes in credit quality, size and composition of our loan portfolio on the balance sheet and other business developments, including portfolio company defaults, that could affect net increase (decrease) in net assets resulting from operations. Accordingly, actual results could differ significantly from those in the hypothetical analysis in the table above.

We may also experience risk associated with investing in securities of companies with foreign operations. Some of our portfolio companies have operations located outside the U.S. These risks include, but are not limited to, fluctuations in foreign currency exchange rates, imposition of foreign taxes, changes in exportation regulations and political and social instability.

 

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ITEM 8.

FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

Index to Consolidated Financial Statements

 

Management’s Annual Report on Internal Controls Over Financial Reporting

     82  

Report of Independent Registered Public Accounting Firm

     83  

Consolidated Statements of Assets and Liabilities as of March  31, 2021 and March 31, 2020

     85  

Consolidated Statements of Operations for the years ended March  31, 2021, 2020 and 2019

     86  

Consolidated Statements of Changes in Net Assets for the years ended March 31, 2021, 2020 and 2019

     88  

Consolidated Statements of Cash Flows for the years ended March  31, 2021, 2020 and 2019

     89  

Consolidated Schedules of Investments as of March  31, 2021 and March 31, 2020

     91  

Notes to Consolidated Financial Statements

     105  

 

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Management’s Annual Report on Internal Control over Financial Reporting

To the Board of Directors and Stockholders of Gladstone Investment Corporation:

Our management is responsible for establishing and maintaining adequate internal control over financial reporting as defined in Rule 13a-15(f) under the Securities Exchange Act of 1934. Our internal control over financial reporting is designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles and include those policies and procedures that: (1) pertain to the maintenance of records that in reasonable detail accurately and fairly reflect our transactions and the dispositions of our assets; (2) provide reasonable assurance that our transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that our receipts and expenditures are being made only in accordance with appropriate authorizations; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of our assets that could have a material effect on our financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Therefore, even those systems determined to be effective can provide only reasonable assurance with respect to financial statement preparation and presentation.

Under the supervision and with the participation of our management, including our chief executive officer and our chief financial officer, we assessed the effectiveness of our internal control over financial reporting as of March 31, 2021, using the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in Internal Control—Integrated Framework (2013). Based on its assessment, management has concluded that our internal control over financial reporting was effective as of March 31, 2021.

May 11, 2021

 

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Report of Independent Registered Public Accounting Firm

To the Board of Directors and Stockholders of Gladstone Investment Corporation

Opinion on the Financial Statements

We have audited the accompanying consolidated statements of assets and liabilities, including the consolidated schedules of investments, of Gladstone Investment Corporation and its subsidiaries (the “Company”) as of March 31, 2021 and 2020, and the related consolidated statements of operations, changes in net assets and cash flows for each of the three years in the period ended March 31, 2021, including the related notes and financial statement schedule listed in the index appearing under Item 15(a)(2) as of March 31, 2021 and 2020 (collectively referred to as the “consolidated financial statements”). In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of the Company as of March 31, 2021 and 2020, and the results of its operations, changes in its net assets and its cash flows for each of the three years in the period ended March 31, 2021 in conformity with accounting principles generally accepted in the United States of America.

We have also previously audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated statements of assets and liabilities, including the consolidated schedules of investments, of the Company as of March 31, 2019, 2018, 2017, 2016, 2015, 2014, 2013, and 2012, and the related consolidated statements of operations, changes in net assets and cash flows for the years ended March 31, 2018, 2017, 2016, 2015, 2014, 2013, and 2012 (none of which are presented herein), and we expressed unqualified opinions on those consolidated financial statements. In our opinion, the information set forth in the Senior Securities table of the Company for each of the ten years in the period ended March 31, 2021, appearing on pages 56-59 under Item 5 of this Form 10-K, is fairly stated, in all material respects, in relation to the consolidated financial statements from which it has been derived.

Basis for Opinion

These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the Company’s consolidated financial statements based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (PCAOB) and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.

We conducted our audits of these consolidated financial statements in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to error or fraud. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. As part of our audits we are required to obtain an understanding of internal control over financial reporting but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion.

Our audits included performing procedures to assess the risks of material misstatement of the consolidated financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the consolidated financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. Our procedures included confirmation of securities owned as of March 31, 2021 and 2020 by correspondence with the custodians, agent banks and portfolio company investees; when replies were not received, we performed other auditing procedures. We believe that our audits provide a reasonable basis for our opinion.

 

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Critical Audit Matters

The critical audit matter communicated below is a matter arising from the current period audit of the consolidated financial statements that was communicated or required to be communicated to the audit committee and that (i) relates to accounts or disclosures that are material to the consolidated financial statements and (ii) involved our especially challenging, subjective, or complex judgments. The communication of critical audit matters does not alter in any way our opinion on the consolidated financial statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing a separate opinion on the critical audit matter or on the accounts or disclosures to which it relates.

Valuation of Level 3 Investments

As described in Notes 2 and 3 to the consolidated financial statements, the Company held $633.7 million of total level 3 investments at fair value as of March 31, 2021. Management uses significant unobservable inputs in estimating the fair value of its level 3 investments, including (i) with respect to investments valued using a total enterprise value, portfolio company earnings before interest, taxes, depreciation and amortization (“EBITDA”) and EBITDA multiples, revenue and revenue multiples, or a discounted cash flow analysis using estimated risk-adjusted discount rates; (ii) with respect to investments valued using a yield analysis, a modified discount rate; and (iii) with respect to investments valued using market quotations for which a limited market exists, the lower indicative bid price in the bid-to-ask price range.

The principal considerations for our determination that performing procedures relating to the valuation of level 3 investments is a critical audit matter are (i) the significant judgment by management to determine the fair value of these level 3 investments using a total enterprise value or yield analysis due to the use of significant unobservable inputs, which in turn led to a high degree of auditor judgment, subjectivity and effort in performing procedures and evaluating audit evidence related to the EBITDA and EBITDA multiples and revenue and revenue multiples used in a total enterprise value and the modified discount rate used in a yield analysis, and (ii) the audit effort involved the use of professionals with specialized skill and knowledge.

Addressing the matter involved performing procedures and evaluating audit evidence in connection with forming our overall opinion on the consolidated financial statements. These procedures included, among others, either (i) testing management’s process for determining the fair value estimate, including testing the completeness and accuracy of data provided by management, evaluating the appropriateness of management’s valuation methods, and evaluating the reasonableness of the EBITDA and EBITDA multiples and revenue and revenue multiples used in a total enterprise value and the modified discount rate used in a yield analysis by considering current and past performance of the investment, consistency of the unobservable inputs with external market data and evidence obtained in other areas of the audit, and management’s historical forecasting accuracy, or (ii) the involvement of professionals with specialized skill and knowledge to assist in developing an independent fair value estimate for certain level 3 investments and comparison of management’s estimate to the independently developed estimate. Developing an independent fair value estimate involved testing the completeness and accuracy of data provided by management and independently developing significant unobservable inputs related to the EBITDA and EBITDA multiples or revenue and revenue multiples for those investments valued using a total enterprise value.

/s/ PricewaterhouseCoopers LLP

Arlington, Virginia

May 11, 2021

We have served as the Company’s auditor since 2005.

 

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GLADSTONE INVESTMENT CORPORATION

CONSOLIDATED STATEMENTS OF ASSETS AND LIABILITIES

(DOLLAR AMOUNTS IN THOUSANDS EXCEPT PER SHARE AMOUNTS)

 

     March 31,  
     2021     2020  

ASSETS

    

Investments at fair value

    

Non-Control/Non-Affiliate investments (Cost of $297,400 and $276,589, respectively)

   $ 298,222     $ 292,129  

Affiliate investments (Cost of $341,651 and $311,481, respectively)

     307,977       247,637  

Control investments (Cost of $24,512 and $21,512, respectively)

     27,630       26,158  

Cash and cash equivalents

     2,062       2,778  

Restricted cash and cash equivalents

     336       1,282  

Interest receivable

     3,369       3,429  

Due from administrative agent

     1,164       771  

Deferred financing costs, net

     1,359       991  

Other assets, net

     1,612       1,202  
  

 

 

   

 

 

 

TOTAL ASSETS

   $ 643,731     $ 576,377  
  

 

 

   

 

 

 

LIABILITIES

    

Borrowings:

    

Line of credit at fair value (Cost of $22,400 and $49,200, respectively)

   $ 22,400     $ 49,200  

Notes payable, net

     123,883       —    

Secured borrowing

     5,096       5,096  
  

 

 

   

 

 

 

Total borrowings

     151,379       54,296  

Mandatorily redeemable preferred stock, $0.001 par value per share, $25.00 liquidation preference per share; 5,990,000 and 6,500,000 shares authorized; 3,774,853 and 5,290,000 shares issued and outstanding, respectively, net

     92,209       129,160  

Accounts payable and accrued expenses

     563       1,084  

Interest payable

     591       138  

Fees due to Adviser(A)

     15,664       7,178  

Fee due to Administrator(A)

     577       582  

Other liabilities

     384       14,908  
  

 

 

   

 

 

 

TOTAL LIABILITIES

     261,367       207,346  
  

 

 

   

 

 

 

Commitments and contingencies(B)

    

NET ASSETS

   $ 382,364     $ 369,031  
  

 

 

   

 

 

 

ANALYSIS OF NET ASSETS

    

Common stock, $0.001 par value per share, 100,000,000 shares authorized; 33,205,023 and 33,049,463 shares issued and outstanding, respectively

   $ 33     $ 33  

Capital in excess of par value

     400,796       401,023  

Cumulative net unrealized depreciation of investments

     (29,734     (43,658

Underdistributed net investment income

     2,592       6,370  

Accumulated net realized gain in excess of distributions

     8,677       5,263  
  

 

 

   

 

 

 

Total distributable earnings

     (18,465     (32,025
  

 

 

   

 

 

 

TOTAL NET ASSETS

   $ 382,364     $ 369,031  
  

 

 

   

 

 

 

NET ASSET VALUE PER SHARE

   $ 11.52     $ 11.17  
  

 

 

   

 

 

 
(A) 

Refer to Note 4 — Related Party Transactions in the accompanying Notes to Consolidated Financial Statements for additional information.

(B)

Refer to Note 11 — Commitments and Contingencies in the accompanying Notes to Consolidated Financial Statements for additional information.

 

THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL STATEMENTS.

 

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GLADSTONE INVESTMENT CORPORATION

CONSOLIDATED STATEMENTS OF OPERATIONS

(DOLLAR AMOUNTS IN THOUSANDS EXCEPT PER SHARE AMOUNTS)

 

     Year Ended March 31,  
     2021     2020     2019  

INVESTMENT INCOME

      

Interest income:

      

Non-Control/Non-Affiliate investments

   $ 26,031     $ 26,744     $ 23,977  

Affiliate investments

     20,208       21,894       24,767  

Control investments

     920       848       848  

Cash and cash equivalents

     5       68       40  
  

 

 

   

 

 

   

 

 

 

Total interest income

     47,164       49,554       49,632  

Dividend income:

      

Non-Control/Non-Affiliate investments

     910       6,351       4,337  

Affiliate investments

     6,165       3,080       (401
  

 

 

   

 

 

   

 

 

 

Total dividend income

     7,075       9,431       3,936  

Success fee income:

      

Non-Control/Non-Affiliate investments

     871       818       2,099  

Affiliate investments

     1,517       2,121       1,996  

Control investments

     —         —         2,000  
  

 

 

   

 

 

   

 

 

 

Total success fee income

     2,388       2,939       6,095  
  

 

 

   

 

 

   

 

 

 

Total investment income

     56,627       61,924       59,663  
  

 

 

   

 

 

   

 

 

 

EXPENSES

      

Base management fee(A)

     12,115       12,145       12,752  

Loan servicing fee(A)

     7,082       6,859       6,827  

Incentive fee(A)

     8,778       (2,380     22,254  

Administration fee(A)

     1,619       1,476       1,312  

Interest expense on borrowings

     4,440       3,958       6,147  

Dividends on mandatorily redeemable preferred stock

     8,674       8,359       8,747  

Amortization of deferred financing costs and discounts

     1,750       1,492       1,610  

Professional fees

     1,935       1,881       1,272  

Other general and administrative expenses

     2,327       3,067       3,537  
  

 

 

   

 

 

   

 

 

 

Expenses before credits from Adviser

     48,720       36,857       64,458  
  

 

 

   

 

 

   

 

 

 

Credits to base management fee – loan servicing fee(A)

     (7,082     (6,859     (6,827

Credits to fees from Adviser—other(A)

     (2,949     (4,436     (5,509
  

 

 

   

 

 

   

 

 

 

Total expenses, net of credits to fees

     38,689       25,562       52,122  
  

 

 

   

 

 

   

 

 

 

NET INVESTMENT INCOME

   $ 17,938     $ 36,362     $ 7,541  
  

 

 

   

 

 

   

 

 

 

 

(A) 

Refer to Note 4 — Related Party Transactions in the accompanying Notes to Consolidated Financial Statements for additional information.

 

THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL STATEMENTS.

 

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GLADSTONE INVESTMENT CORPORATION

CONSOLIDATED STATEMENTS OF OPERATIONS (Continued)

(DOLLAR AMOUNTS IN THOUSANDS EXCEPT PER SHARE AMOUNTS)

 

     Year Ended March 31,  
     2021     2020     2019  

REALIZED AND UNREALIZED GAIN (LOSS)

      

Net realized gain (loss):

      

Non-Control/Non-Affiliate investments

   $ 6,401     $ 36,991     $ 12,815  

Affiliate investments

     4,973       7,812       55,741  

Other

     (782     —         (1,687
  

 

 

   

 

 

   

 

 

 

Total net realized gain

     10,592       44,803       66,869  
  

 

 

   

 

 

   

 

 

 

Taxes on deemed distribution of long-term capital gains

     —         (10,260     (13,500

Net unrealized appreciation (depreciation):

      

Non-Control/Non-Affiliate investments

     (14,718     (44,208     32,537  

Affiliate investments

     30,170       (46,781     (13,209

Control investments

     (1,528     12,850       852  

Other

                 500  
  

 

 

   

 

 

   

 

 

 

Total net unrealized appreciation (depreciation)

     13,924       (78,139     20,680  
  

 

 

   

 

 

   

 

 

 

Net realized and unrealized gain (loss), net of taxes on deemed distribution of long-term capital gains

     24,516       (43,596     74,049  
  

 

 

   

 

 

   

 

 

 

NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM OPERATIONS

   $ 42,454     $ (7,234   $ 81,590  
  

 

 

   

 

 

   

 

 

 

BASIC AND DILUTED PER COMMON SHARE:

      

Net investment income

   $ 0.54     $ 1.11     $ 0.23  
  

 

 

   

 

 

   

 

 

 

Net increase (decrease) in net assets resulting from operations

   $ 1.28     $ (0.22   $ 2.49  
  

 

 

   

 

 

   

 

 

 

WEIGHTED-AVERAGE SHARES OF COMMON STOCK OUTSTANDING:

      

Basic and diluted

     33,176,760       32,865,840       32,807,597  

 

 

THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL STATEMENTS.

 

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GLADSTONE INVESTMENT CORPORATION

CONSOLIDATED STATEMENTS OF CHANGES IN NET ASSETS

(IN THOUSANDS)

 

     Year Ended March 31,  
     2021     2020     2019  

NET ASSETS, BEGINNING OF YEAR

   $ 369,031     $ 407,110     $ 354,200  

OPERATIONS

      

Net investment income

   $ 17,938     $ 36,362     $ 7,541  

Net realized gain on investments

     11,374       44,803       68,556  

Taxes on deemed distributions of long-term capital gains

     —         (10,260     (13,500

Net realized loss on other

     (782     —         (1,687

Net unrealized appreciation (depreciation) of investments

     13,924       (78,139     20,180  

Net unrealized depreciation of other

     —         —         500  
  

 

 

   

 

 

   

 

 

 

Net increase (decrease) in net assets from operations

     42,454       (7,234     81,590  
  

 

 

   

 

 

   

 

 

 

DISTRIBUTIONS(A)

      

Distributions to common stockholders from net investment income ($0.83, $0.75, and $0.69 per share, respectively)

     (27,407     (24,790     (22,670

Distributions to common stockholders from realized gains ($0.10, $0.28, and $0.24 per share, respectively)

     (3,451     (9,130     (7,846
  

 

 

   

 

 

   

 

 

 

Net decrease in net assets from distributions

     (30,858     (33,920     (30,516
  

 

 

   

 

 

   

 

 

 

CAPITAL ACTIVITY

      

Issuance of common stock

     1,772       3,131       1,873  

Discounts, commissions, and offering costs for issuance of common stock

     (35     (56     (37
  

 

 

   

 

 

   

 

 

 

Net increase in net assets from capital activity

     1,737       3,075       1,836  
  

 

 

   

 

 

   

 

 

 

TOTAL INCREASE (DECREASE) IN NET ASSETS

     13,333       (38,079     52,910  
  

 

 

   

 

 

   

 

 

 

NET ASSETS, END OF YEAR(A)

   $ 382,364     $ 369,031     $ 407,110  
  

 

 

   

 

 

   

 

 

 

 

(A)

Refer to Note 9 — Distributions to Common Stockholders in the accompanying Notes to Consolidated Financial Statements for additional information.

 

THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL STATEMENTS.

 

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GLADSTONE INVESTMENT CORPORATION

CONSOLIDATED STATEMENTS OF CASH FLOWS

(IN THOUSANDS)

 

     Year Ended March 31,  
     2021     2020     2019  

CASH FLOWS FROM OPERATING ACTIVITIES

      

Net increase (decrease) in net assets resulting from operations

   $ 42,454     $ (7,234   $ 81,590  

Adjustments to reconcile net increase (decrease) in net assets resulting from operations to net cash (used in) provided by operating activities:

      

Purchase of investments

     (95,272     (145,449     (91,936

Principal repayments of investments

     20,734       79,997       45,214  

Net proceeds from the sale of investments

     31,047       89,943       109,437  

Net realized gain on investments

     (11,374     (44,803     (68,058

Net realized loss on other

     782       —         1,670  

Net unrealized (appreciation) depreciation of investments

     (13,924     78,139       (20,180

Net unrealized depreciation of other

     —         —         (500

Amortization of premiums, discounts, and acquisition costs, net

     (18     (18     (18

Amortization of deferred financing costs and discounts

     1,750       1,492       1,610  

Bad debt expense, net of recoveries

     88       433       1,668  

Changes in assets and liabilities:

      

Decrease (increase) in interest receivable

     16       (621     (287

(Increase) decrease in due from administrative agent

     (393     514       1,039  

Increase in other assets, net

     (19     —         (558

(Decrease) increase in accounts payable and accrued expenses

     (521     376       151  

Increase (decrease) in interest payable

     453       (46     (175

Increase (decrease) in fees due to Adviser(A)

     8,442       (17,546     18,053  

(Decrease) increase in fee due to Administrator(A)

     (5     238       27  

(Decrease) increase in other liabilities

     (13,972     (106     14,868  
  

 

 

   

 

 

   

 

 

 

Net cash (used in) provided by operating activities

     (29,732     35,309       93,615  
  

 

 

   

 

 

   

 

 

 

CASH FLOWS FROM FINANCING ACTIVITIES

      

Proceeds from issuance of common stock

     1,772       3,131       1,873  

Discounts, commissions, and offering costs for issuance of common stock

     (31     (56     (28

Proceeds from line of credit

     125,900       188,300       205,500  

Repayments on line of credit

     (152,700     (192,100     (259,500

Proceeds from issuance of notes payable

     127,938       —         —    

Proceeds from issuance of mandatorily redeemable preferred stock

     19,276       —         74,750  

Redemption of mandatorily redeemable preferred stock

     (57,500     —         (81,650

Deferred financing and offering costs

     (5,727     (209     (4,406

Distributions paid to common stockholders

     (30,858     (33,920     (30,516
  

 

 

   

 

 

   

 

 

 

Net cash provided by (used in) financing activities

     28,070       (34,854     (93,977
  

 

 

   

 

 

   

 

 

 

NET (DECREASE) INCREASE IN CASH, CASH EQUIVALENTS, RESTRICTED CASH, AND RESTRICTED CASH EQUIVALENTS

     (1,662     455       (362

CASH, CASH EQUIVALENTS, RESTRICTED CASH, AND RESTRICTED CASH EQUIVALENTS, BEGINNING OF YEAR

     4,060       3,605       3,967  
  

 

 

   

 

 

   

 

 

 

CASH, CASH EQUIVALENTS, RESTRICTED CASH, AND RESTRICTED CASH EQUIVALENTS, END OF YEAR

   $ 2,398     $ 4,060     $ 3,605  
  

 

 

   

 

 

   

 

 

 

CASH PAID FOR INTEREST

   $ 3,169     $ 2,362     $ 5,665  
  

 

 

   

 

 

   

 

 

 

NON-CASH ACTIVITIES(B)

   $ —       $ —       $ 20,099  
  

 

 

   

 

 

   

 

 

 

 

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(A) 

Refer to Note 4 — Related Party Transactions in the accompanying Notes to Consolidated Financial Statements for additional information.

 

(B) 

2019: Significant non-cash operating activities consisted principally of the following transactions:

In January 2019, we restructured two of our first lien term loans to SOG Specialty Knives & Tools, LLC with a total cost basis of $18.4 million into a new $8.4 million first lien term loan, which resulted in a realized loss of $10.0 million.

In March 2019, we restructured our existing second lien term loans and delayed draw term loan to The Mountain Corporation with a total cost basis of $21.7 million into a new $11.7 million second lien term loan, which resulted in a realized loss of $10.0 million.

THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL STATEMENTS.

 

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GLADSTONE INVESTMENT CORPORATION

CONSOLIDATED SCHEDULE OF INVESTMENTS

MARCH 31, 2021

(DOLLAR AMOUNTS IN THOUSANDS)

 

Company and Investment(A)(B)(D)(E)

   Principal/Shares/
Units(F)(J)
     Cost      Fair Value  

NON-CONTROL/NON-AFFILIATE INVESTMENTS(N)—77.9%

        

Secured First Lien Debt—48.9%

        

Diversified/Conglomerate Manufacturing—1.1%

        

Phoenix Door Systems, Inc.—Line of Credit, $0 available (L+7.0%, 9.0% Cash (0.3% Unused Fee), Due 3/2022)(L)

   $ 1,150      $ 1,150      $ 1,150  

Phoenix Door Systems, Inc.—Term Debt (L+11.0%, 13.0% Cash, Due 9/2024)(L)

     3,200        3,200        3,200  
     

 

 

    

 

 

 
        4,350        4,350  

Diversified/Conglomerate Services—30.6%

        

Bassett Creek Services, Inc.—Term Debt (L+10.0%, 12.0% Cash, Due 4/2023)(K)

     37,500        37,500        36,656  

Counsel Press, Inc.—Term Debt (L+11.8%, 12.8% Cash, Due 3/2023)(L)

     21,100        21,100        21,100  

Counsel Press, Inc.—Term Debt (L+13.0%, 14.0% Cash, Due 3/2023)(L)

     6,400        6,400        6,400  

Horizon Facilities Services, Inc.—Term Debt (L+9.5%, 12.0% Cash, Due 6/2024)(G)(L)

     27,700        27,700        27,700  

Mason West, LLC—Line of Credit, $3,000 available (L+8.0%, 10.0% Cash, Due 7/2021)(L)

     —          —          —    

Mason West, LLC—Term Debt (L+10.0%, 12.5% Cash, Due 7/2025)(L)

     25,250        25,250        25,250  
     

 

 

    

 

 

 
        117,950        117,106  

Healthcare, Education, and Childcare—5.2%

        

Educators Resource, Inc.—Term Debt (L+10.5%, 13.0% Cash, Due 11/2023)(L)

     20,000        20,000        20,000  

Home and Office Furnishings, Housewares, and Durable Consumer Products—6.4%

        

Brunswick Bowling Products, Inc.—Term Debt (L+10.0%, 12.0% Cash, Due 1/2023)(L)

     17,700        17,700        17,700  

Brunswick Bowling Products, Inc.—Term Debt (L+10.0%, 12.0% Cash, Due 1/2023)(L)

     6,850        6,850        6,850  
     

 

 

    

 

 

 
        24,550        24,550  

Leisure, Amusement, Motion Pictures, and Entertainment —5.6%

        

Schylling, Inc.—Term Debt (L+11.0%, 13.0% Cash, Due 8/2024)(L)

     13,081        13,081        13,081  

Schylling, Inc.—Term Debt (L+11.0%, 13.0% Cash, Due 8/2024)(L)

     8,500        8,500        8,500  
     

 

 

    

 

 

 
        21,581        21,581  
     

 

 

    

 

 

 

Total Secured First Lien Debt

      $ 188,431      $ 187,587  
     

 

 

    

 

 

 

 

THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONSOLIDATED FINANCIAL STATEMENTS.

 

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GLADSTONE INVESTMENT CORPORATION

CONSOLIDATED SCHEDULE OF INVESTMENTS (Continued)

MARCH 31, 2021

(DOLLAR AMOUNTS IN THOUSANDS)

Company and Investment(A)(B)(D)(E)

   Principal/Shares/
Units(F)(J)