Filed Pursuant to Rule 497
Securities Act File No. 333-216138

 

Stellus Capital Investment Corporation

 

Supplement No. 1, dated November 13, 2017
to
Prospectus Supplement, dated August 23, 2017

 

This supplement contains information which amends, supplements or modifies certain information contained in the Prospectus of Stellus Capital Investment Corporation (the “Company”), dated April 3, 2017, as supplemented by the Prospectus Supplement, dated August 23, 2017. Capitalized terms used but not otherwise defined herein shall have the same meaning given to them in the Prospectus Supplement or Prospectus, as applicable.

 

You should carefully consider the “Risk Factors” beginning on page 17 of the Prospectus before you decide to invest.

 

STATUS OF OUR OFFERING

 

On August 23, 2017, we established an at-the-market program to which this Supplement No. 1 and the Prospectus Supplement, dated August 23, 2017, relate, and through which we may sell, from time to time at our sole discretion, up to $50.0 million of our common stock. The proceeds raised, the related underwriting fees, the offering expenses and the price at which these shares were issued from the period of August 23, 2017 through November 10, 2017 are as follows:

 

Fiscal Year 2017 Issuance of Common Stock   Number of
Shares
  Gross
Proceeds
  Sales Agent
Commissions
  Offering
Expenses
  Average Offering
Price
Fourth Quarter (through November 10, 2017)     91,466     $ 1,249,923     $ 12,798     $ -     $ 13.68  
Third Quarter ended September 30, 2017     211,956       2,900,376       43,506       65,954       13.68  
Total     303,422     $ 4,150,299     $ 56,304     $ 65,954     $ 13.68  

 

FILING OF FORM 10-Q

 

On November 9, 2017, we filed our Quarterly Report on Form 10-Q (“Form 10-Q”) for the quarter ended September 30, 2017 with the Securities and Exchange Commission. We have attached the Form 10-Q to this supplement as Annex A.

 

 

 

 

Annex A

 

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

 

 

FORM 10-Q

 

 

 

(Mark One)

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

For the quarterly period ended September 30, 2017

OR

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

 

COMMISSION FILE NUMBER: 1-35730

 

 

 

STELLUS CAPITAL INVESTMENT CORPORATION

( Exact Name of Registrant as Specified in Its Charter)

 

 

 

Maryland   46-0937320
(State or other Jurisdiction of
Incorporation or Organization)
  (I.R.S. Employer
Identification No.)

 

4400 Post Oak Parkway, Suite 2200

Houston, Texas 77027

(Address of Principal Executive Offices) (Zip Code)

(713) 292-5400

(Registrant’s Telephone Number, Including Area Code)

 

 

 

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 x No ¨

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post 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 definitions of “large accelerated filer,” “accelerated filer”, “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. (Check one):

 

Large accelerated filer ¨   Accelerated filer x
Non-accelerated filer ¨   Smaller reporting company ¨

Emerging growth company

(do not check if a smaller reporting company)

x      

 

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 is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No x

 

The number of shares of the issuer’s Common Stock, $0.001 par value per share, outstanding as of November 3, 2017 was 15,945,879.

 

 

 

 

 

  

STELLUS CAPITAL INVESTMENT CORPORATION

TABLE OF CONTENTS

 

PART I. FINANCIAL INFORMATION  
Item 1. Financial Statements
  Consolidated Statements of Assets and Liabilities as of September 30, 2017 (unaudited) and December 31, 2016 2
  Consolidated Statements of Operations for the three and nine-month periods ended September 30, 2017 and 2016 (unaudited) 3
  Consolidated Statements of Changes in Net Assets for the nine-month periods ended September 30, 2017 and 2016 (unaudited) 4
  Consolidated Statements of Cash Flows for the nine-month periods ended September 30, 2017 and 2016 (unaudited) 5
  Consolidated Schedules of Investments as of September 30, 2017 (unaudited) and December 31, 2016 6
  Notes to Unaudited Consolidated Financial Statements 19
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 48
Item 3. Quantitative and Qualitative Disclosures About Market Risk 64
Item 4. Controls and Procedures 64
PART II. OTHER INFORMATION  
Item 1. Legal Proceedings 65
Item 1A. Risk Factors 65
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 65
Item 3. Defaults Upon Senior Securities 65
Item 4. Mine Safety Disclosures 65
Item 5. Other Information 65
Item 6. Exhibits 66

 

 i 

 

 

PART I — FINANCIAL INFORMATION

 

STELLUS CAPITAL INVESTMENT CORPORATION

 

CONSOLIDATED STATEMENTS OF ASSETS AND LIABILITIES

 

   September 30,     
   2017   December 31, 
   (unaudited)   2016 
ASSETS          
Non-controlled, affiliated investments, at fair value (amortized cost of $1,052,185 and $0, respectively)  $940,000   $ 
Non-controlled, non-affiliated investments, at fair value (amortized cost of $351,197,270 and $362,217,251, respectively)   354,357,607    365,625,891 
Cash and cash equivalents   11,666,805    9,194,129 
Interest receivable   4,143,998    4,601,742 
Accounts receivable   3,806    748 
Prepaid loan structure fees   47,453     
Prepaid expenses   138,165    456,219 
Total Assets  $371,297,834   $379,878,729 
LIABILITIES          
Notes Payable  $47,220,425   $24,565,891 
Credit facility payable   35,544,028    115,171,208 
SBA Debentures   63,585,342    63,342,036 
Dividends payable   1,796,308    1,413,982 
Base management fees payable   1,546,781    1,608,295 
Incentive fees payable   619,617    1,353,271 
Interest payable   694,917    973,812 
Directors' fees payable   83,000     
Unearned revenue   128,094    19,955 
Administrative services payable   313,595    272,511 
Deferred Tax Liability       8,593 
Other accrued expenses and liabilities   229,685    267,390 
Total Liabilities  $151,761,792   $208,996,944 
Net Assets  $219,536,042   $170,881,785 
NET ASSETS          
Common Stock, par value $0.001 per share (200,000,000 shares authorized, 15,854,413 and 12,479,959 shares issued and outstanding, respectively)  $15,854   $12,480 
Paid-in capital   226,842,884    180,994,723 
Accumulated net realized loss   (8,589,708)   (13,089,671)
Distributions in excess of net investment income   (1,781,150)   (435,794)
Net unrealized appreciation on investments and cash equivalents, net of provision for taxes of $0 and $8,593, respectively   3,048,162    3,400,047 
Net Assets  $219,536,042   $170,881,785 
Total Liabilities and Net Assets  $371,297,834   $379,878,729 
Net Asset Value Per Share  $13.85   $13.69 

 

 2 

 

 

STELLUS CAPITAL INVESTMENT CORPORATION

 

CONSOLIDATED STATEMENTS OF OPERATIONS (unaudited)

 

   For the   For the   For the   For the 
   three months   three months   nine months   nine months 
   ended   ended   ended   ended 
   September 30,   September 30,   September 30,   September 30, 
   2017   2016   2017   2016 
INVESTMENT INCOME                    
Interest income  $9,728,749   $9,773,863   $28,847,532   $28,477,016 
Other income   249,596    428,890    1,389,158    816,739 
Total Investment Income  $9,978,345   $10,202,753   $30,236,690    29,293,755 
OPERATING EXPENSES                    
Management fees  $1,546,781   $1,574,354   $4,634,318   $4,673,568 
Valuation fees   137,445    157,179    326,839    357,346 
Administrative services expenses   313,256    244,303    933,214    782,230 
Incentive fees   462,743    1,110,297    2,718,586    3,121,395 
Professional fees   356,654    177,410    803,818    564,724 
Directors' fees   83,000    73,000    254,000    251,000 
Insurance expense   111,680    119,323    331,398    355,376 
Interest expense and other fees   2,042,608    2,037,782    5,892,047    5,932,814 
Deferred offering costs   -    -    -    261,761 
Other general and administrative expenses   145,494    100,362    481,700    340,406 
Total Operating Expenses   5,199,661    5,594,010    16,375,920    16,640,620 
Loss on extinguishment of debt   302,732    -    302,732    - 
Net Investment Income  $4,475,952   $4,608,743   $13,558,038   $12,653,135 
Net Realized Gain (Loss) on Investments and Cash Equivalents  $5,211,960   $(898,189)  $4,499,963   $(895,809)
Net Change in Unrealized Appreciation (Depreciation) on Investments and Cash Equivalents  $(4,051,314)  $6,176,947   $(360,478)  $5,361,794 
Benefit for taxes on investments at Taxable Subsidiaries  $-   $39,965   $8,593   $362,116 
Net Increase in Net Assets Resulting from Operations  $5,636,598   $9,927,466   $17,706,116   $17,481,236 
Net Investment Income Per Share  $0.29   $0.37   $0.93   $1.01 
Net Increase in Net Assets Resulting from Operations Per Share  $0.36   $0.80   $1.22   $1.40 
Weighted Average Shares of Common Stock Outstanding   15,668,415    12,479,958    14,510,408    12,479,959 
Distributions Per Share  $0.34   $0.34   $1.02   $1.02 

 

 3 

 

 

STELLUS CAPITAL INVESTMENT CORPORATION

 

CONSOLIDATED STATEMENTS OF CHANGES IN NET ASSETS (unaudited)

 

   For the   For the 
   nine months   nine months 
   ended   ended 
   September 30,   September 30, 
   2017   2016 
Increase in Net Assets Resulting from Operations          
Net investment income  $13,558,038   $12,653,135 
Net realized gain (loss) on investments and cash equivalents   4,499,963    (895,809)
Net change in unrealized appreciation (depreciation) on investments and cash equivalents   (360,478)   5,361,794 
Benefit for taxes on investments at Taxable Subsidiaries   8,593    362,116 
Net Increase in Net Assets Resulting from Operations   17,706,116    17,481,236 
Stockholder distributions          
Net investment income   (14,903,394)   (12,726,304)
Total Distributions   (14,903,394)   (12,726,304)
Capital share transactions          
Issuance of common stock   47,491,626     
Sales load   (1,340,131)    
Offering costs   (299,961)    
Net increase in net assets resulting from capital share transactions   45,851,535     
Total increase in net assets   48,654,257    4,754,932 
Net assets at beginning of period   170,881,785    164,651,104 
Net assets at end of period (includes $1,781,150 and $852,791 of distributions in excess of net investment income, respectively)  $219,536,042   $169,406,036 

 

 4 

 

  

STELLUS CAPITAL INVESTMENT CORPORATION

 

CONSOLIDATED STATEMENTS OF CASH FLOWS (unaudited)

 

   For the   For the 
   nine months   nine months 
   ended   ended 
   September 30, 2017   September 30, 2016 
Cash flows from operating activities          
Net increase in net assets resulting from operations  $17,706,116   $17,481,236 
Adjustments to reconcile net increase in net assets resulting from operations to net cash provided by operating activities:          
Purchases of investments   (117,683,094)   (37,392,617)
Proceeds from sales and repayments of investments   133,380,057    35,618,611 
Net change in unrealized appreciation (depreciation) on investments   360,478    (5,361,794)
Deferred tax benefit   (8,593)   (362,116)
Increase in investments due to PIK   (347,482)   (165,110)
Amortization of premium and accretion of discount, net   (881,710)   (830,040)
Amortization of loan structure fees   372,820    392,702 
Amortization of deferred financing costs   165,763    244,197 
Loss on extinguishment of debt   302,732     
Amortization of loan fees on SBIC debentures   243,306    137,077 
Net realized loss (gain) on investments   (4,499,963)   895,809 
Deferred offering cost       261,761 
Changes in other assets and liabilities          
Changes in other assets and liabilities          
Decrease in interest receivable   457,744    562,019 
Decrease (increase) in accounts receivable   (3,058)   7,684 
Decrease in prepaid expenses and fees   318,054    328,105 
Increase (decrease) in management fees payable   (61,514)   55,575 
Increase in directors' fees payable   83,000     
Increase (decrease) in incentive fees payable   (733,654)   829,074 
Increase (decrease) in administrative services payable   41,084    (158,223)
Decrease in interest payable   (278,895)   (161,952)
Increase (decrease) in unearned revenue   108,139    (15,104)
Increase in dividend payable   382,326     
Increase (decrease) in other accrued expenses and liabilities   (37,706)   123,625 
Net cash provided by (used in) operating activities   29,385,950    12,490,519 
Cash flows from financing activities          
Proceeds from notes issued   48,875,000     
Financing costs paid on Credit Facility   (47,453)    
Proceeds from the issuance of common stock   47,491,626     
Sales load for common stock issued   (1,340,131)    
Offering costs paid for common stock issued   (299,961)    
Stockholder distributions paid   (14,903,394)   (12,726,304)
Financing costs paid for Notes issued   (1,688,961)    
Repayments on Notes issued   (25,000,000)    
Borrowings under credit facility   116,000,000    28,250,000 
Repayments of credit facility   (196,000,000)   (30,250,000)
Net cash used in financing activities   (26,913,274)   (14,726,304)
Net increase (decrease) in cash and cash equivalents   2,472,676    (2,235,785)
Cash and cash equivalents balance at beginning of period   9,194,129    10,875,790 
Cash and cash equivalents balance at end of period   11,666,805    8,640,005 
Supplemental and non-cash financing activities          
Supplemental and non-cash financing activities          
Interest expense paid   5,384,053    5,315,790 
Excise tax paid   37,648     
Conversion from debt to equity   864,101     

 

 5 

 

  

Stellus Capital Investment Corporation

 

Consolidated Schedule of Investments – (unaudited)

September 30, 2017

 

Investments  Footnotes  Security  Coupon  LIBOR
floor
  Cash  PIK  Maturity  Headquarters/
Industry
  Principal
Amount/
Shares
  Amortized
 Cost
   Fair 
Value (1)
   % of Net
Assets
 
                                        
Non-controlled, affiliated investments  (2)                                       
Glori Energy Production Inc.                       Houston, TX                  
Glori Energy Production, LLC Class A Common Units  (4)  Equity                 Energy: Oil & Gas  1,000 shares   1,052,185    940,000    0.43%
Subtotal Non-controlled,  affiliated investments                              1,052,185    940,000    0.43%
                                           
Non-controlled, non-affiliated investments  (2)                                       
Abrasive Products & Equipment, LLC, et al                       Deer Park, TX                  
Term Loan (SBIC)  (2)(12)  Second Lien  L+10.50%  1.00%  11.84%  3/5/2020  Chemicals, Plastics, & Rubber  $5,325,237  $5,267,178   $5,190,000    2.36%
APE Holdings, LLC Class A Common Units  (4)  Equity                    375,000 units   375,000    240,000    0.11%
Total                              5,642,178    5,430,000    2.47%
Apex Environmental Resources Holdings, LLC                       Amsterdam, OH                  
Common Units  (4)  Equity                 Environmental Industries  673 shares   673    589    0.00%
Preferred Units  (4)  Equity                    673 shares   672,600    589,411    0.27%
Total                              673,273    590,000    0.27%
Atmosphere Aggregator Holdings II, LP                       Atlanta, GA                  
Common Units  (4)  Equity                 Services: Business  254,250 units   254,250    756,990    0.34%
Atmosphere Aggregator Holdings, LP Common Units  (4)  Equity                    750,000 units   750,000    2,233,010    1.02%
Total                              1,004,250    2,990,000    1.36%
ASC Communications, LLC  (7)                    Chicago, IL                  
Term Loan (SBIC)  (2)(12)  First Lien  L+6.25%  1.00%  7.58%     6/29/2022  Healthcare & Pharmaceuticals  $7,481,250   7,409,491    7,410,000    3.38%
ASC Communications Holdings, LLC Class A Preferred Units (SBIC)  (2)(4)  Equity                    73,529 shares   500,000    500,000    0.23%
Total                              7,909,491    7,910,000    3.61%
Beneplace, LLC                       Austin TX                  
Term Loan (SBIC)  (2)(12)  Second Lien  L+10.00%  1.00%  11.34%     9/27/2022  Insurance  $5,000,000   4,906,720    5,000,000    2.28%
Beneplace Holdings, LLC Preferred Units  (4)  Equity                    500,000 units   500,000    500,000    0.23%
Total                              5,406,720    5,500,000    2.51%
Binder & Binder National Social Security Disability Advocates, LLC  (8)                    Hauppauge, NY                  
Residual claim from Term Loan  (4)  Unsecured                 Services: Consumer  $550,000   550,000    510,000    0.23%
BW DME Acquisition, LLC                       Tempe, AZ                  
Term Loan (SBIC)  (2)(12)(13)  First Lien  L+6.00%  1.00%  9.08%     8/24/2022  Healthcare & Pharmaceuticals  $9,550,000   9,269,154    9,270,000    4.22%
BW DME Holdings, LLC Class A Preferred Units  (4)  Equity                    1,000,000 shares   1,000,000    1,000,000    0.46%
Total                              10,269,154    10,270,000    4.68%

  

 6 

 

 

Stellus Capital Investment Corporation

 

Consolidated Schedule of Investments – (unaudited)

September 30, 2017

 

Investments  Footnotes  Security  Coupon  LIBOR
floor
  Cash  PIK  Maturity  Headquarters/
Industry
  Principal
Amount/
Shares
  Amortized Cost   Fair 
Value (1)
   % of Net
Assets
 
C.A.R.S. Protection Plus, Inc.                       Murrysville, PA                  
Term Loan  (12)  First Lien  L+8.50%  0.50%  9.73%     12/31/2020  Automotive  $98,746   97,359    98,746    0.04%
Term Loan (SBIC)  (2)(12)  First Lien  L+8.50%  0.50%  9.73%     12/31/2020     $7,702,191   7,593,999    7,700,000    3.51%
CPP Holdings LLC Class A Common Units  (4)  Equity                    149,828 shares   149,828    260,000    0.12%
Total                              7,841,186    8,058,746    3.67%
Catapult Learning, LLC et al                       Camden, NJ                  
Term Loan  (13)  First Lien  L+6.50%  1.00%  9.23%     7/16/2020  Education  $12,500,000   12,422,124    12,440,000    5.67%
Colford Capital Holdings, LLC                       New York, NY                  
Delay Draw Term Loan #1  (5)  Unsecured  12.00%     12.00%     5/31/2018  Finance  $12,500,000   12,451,470    12,500,000    5.69%
Delay Draw Term Loan #2  (5)  Unsecured  12.00%     12.00%     5/31/2018     $2,000,000   1,990,217    2,000,000    0.91%
Delay Draw Term Loan #4  (5)  Unsecured  12.00%     12.00%     5/31/2018     $5,000,000   4,980,364    5,000,000    2.28%
Colford Capital Holdings, LLC Preferred Units  (4)(5)  Equity                    38,893 units   557,143    610,000    0.28%
Total                              19,979,194    20,110,000    9.16%
Douglas Products & Packaging Company, LLC                       Liberty, MO                  
Term Loan (SBIC)  (2)(12)  Second Lien  L+10.50%  0.50%  11.84%     12/31/2020  Chemicals, Plastics, & Rubber  $9,000,000   8,895,337    9,000,000    4.10%
Fumigation Holdings, Inc. Class A Common Stock  (4)  Equity                    250 shares   250,000    510,000    0.23%
Total                              9,145,337    9,510,000    4.33%
Dream II Holdings, LLC                       Boca Raton, FL                  
Class A Common Units  (4)  Equity                 Services: Consumer  250,000 units   242,304    380,000    0.17%
Empirix Inc.                       Billerica, MA                  
Term Loan  (12)  Second Lien  L+9.50%  1.00%  10.81%     5/1/2020  Software  $11,657,850   11,545,160    11,657,850    5.31%
Term Loan (SBIC)  (2)(12)  Second Lien  L+9.50%  1.00%  10.81%     5/1/2020     $9,750,000   9,654,202    9,750,000    4.44%
Empirix Holdings I, Inc. Common Shares, Class A  (4)  Equity                    1,304 shares   1,304,232    930,600    0.42%
Empirix Holdings I, Inc. Common Shares, Class B  (4)  Equity                    1,317,406 shares   13,174    9,400    0.00%
Total                              22,516,768    22,347,850    10.17%
Energy Labs Inc.                       Houston, TX                  
Term Loan (SBIC)  (2)(13)  First Lien  L+7.00%  0.50%  11.25%     9/29/2021  Energy: Oil & Gas  $5,300,000   5,210,391    5,300,000    2.41%
Energy Labs Holding Corp. Common Stock  (4)  Equity                    500 shares   500,000    410,000    0.19%
Total                              5,710,391    5,710,000    2.60%
EOS Fitness OPCO Holdings, LLC                       Phoenix, AZ                  
Term Loan (SBIC)  (2)(12)  First Lien  L+8.75%  0.75%  9.99%     12/30/2019  Hotel, Gaming, & Leisure  $3,215,429   3,182,293    3,215,429    1.46%
EOS Fitness Holdings, LLC Class A Preferred Units  (4)  Equity                    118 shares   117,670    195,000    0.09%
EOS Fitness Holdings, LLC Class B Common Units  (4)  Equity                    3,017 shares   3,017    5,000    0.00%
Total                              3,302,980    3,415,429    1.55 
Furniture Factory Outlet, LLC                       Fort Smith, AR                  
Term Loan  (12)  First Lien  L+9.00%  0.50%  10.34%     6/10/2021  Consumer Goods: Durable  $7,288,484   7,174,121    7,288,484    3.32%
Furniture Factory Holdings, LLC Term Loan  (11)  Unsecured  11.00%           2/3/2021     $122,823   122,823    120,000    0.05%
Sun Furniture Factory, LP Common Units  (4)  Equity                    13,445 shares   94,569    210,000    0.10%
Total                              7,391,513    7,618,484    3.47%

 

 7 

 

 

Stellus Capital Investment Corporation

 

Consolidated Schedule of Investments – (unaudited)

September 30, 2017

 

Investments  Footnotes  Security  Coupon  LIBOR
floor
  Cash  PIK  Maturity  Headquarters/
Industry
  Principal
Amount/
Shares
  Amortized Cost   Fair 
Value (1)
   % of Net
Assets
 
GK Holdings, Inc.                       Cary, NC                  
Term Loan  (12)  Second Lien  L+10.25%  1.00%  11.58%     1/30/2022  Education  $5,000,000   4,929,497    5,000,000    2.28%
Good Source Solutions, Inc.                       Carlsbad, CA                  
Term Loan  (13)  First Lien  L+7.25%  0.50%  11.62%     7/15/2021  Beverage, Food, & Tobacco  $1,350,000   1,328,254    1,350,000    0.61%
Term Loan (SBIC)  (2)(13)  First Lien  L+7.25%  0.50%  11.62%     7/15/2021     $1,200,000   1,180,670    1,200,000    0.55%
Good Source Holdings, LLC Class A Preferred Units  (4)  Equity                    159 shares   159,375    170,000    0.08%
Good Source Holdings, LLC Class B Common Units  (4)  Equity                    4,482 shares   0    0    0.00%
Total                              2,668,299    2,720,000    1.24%
Grupo HIMA San Pablo, Inc., et al                       San Juan, PR                  
Term Loan  (3)  First Lien  L+7.00%  1.50%  8.50%     1/31/2018  Healthcare & Pharmaceuticals  $4,766,667   4,758,981    4,340,000    1.98%
Term Loan     Second Lien  13.75%     13.75%     7/31/2018     $4,109,524   4,067,690    2,010,000    0.92%
Total                              8,826,671    6,350,000    2.90%
Hostway Corporation                       Chicago, IL                  
Term Loan  (4)(12)  Second Lien  L+8.75%  1.25%  0.00%     12/13/2020  High Tech Industries  $6,750,000   6,675,175    5,910,000    2.69%
HUF Worldwide, LLC  (9)                    Los Angeles, CA                  
Term Loan  (12)  First Lien  L+9.00%  0.50%  10.30%     10/22/2019  Retail  $3,651,709   3,613,358    3,650,000    1.66%
Term Loan (SBIC)  (2)(12)  First Lien  L+9.00%  0.50%  10.30%     10/22/2019     $6,138,648   6,082,112    6,138,648    2.80%
HUF Holdings, LLC Common Class A Units  (4)  Equity                    616,892 units   624,427    330,000    0.15%
Total                              10,319,897    10,118,648    4.61%
Keais Records Service, LLC                       Houston, TX                  
Term Loan  (12)  Second Lien  L+10.50%  0.50%  11.84%     6/30/2022  Services: Business  $7,750,000   7,633,118    7,750,000    3.53%
Keais Holdings, LLC Class A Units  (4)  Equity                    148,335 units   775,000    770,000    0.35%
Total                              8,408,118    8,520,000    3.88%
KidKraft, Inc.                       Dallas, TX                  
Term Loan  (6)  Second Lien  12.00%     11.00%  1.00%  3/30/2022  Consumer Goods: Durable  $9,292,027   9,132,335    9,200,000    4.19%
Livingston International, Inc.                       Toronto, Ontario                  
Term Loan  (5)(12)  Second Lien  L+8.25%  1.25%  9.58%     4/18/2020  Transportation: Cargo  $6,841,739   6,780,602    6,840,000    3.12%
Madison Logic, Inc.                       New York, NY                  
Term Loan (SBIC)  (2)(12)  First Lien  L+8.00%  0.50%  9.24%     11/30/2021  Media: Broadcasting & Subscription  $4,906,250   4,863,954    4,906,250    2.23%
Madison Logic Holdings, Inc. Common Stock (SBIC)  (2)(4)  Equity                    5,000 shares   50,000    64,000    0.03%
Madison Logic Holdings, Inc. Series A Preferred Stock (SBIC)  (2)(4)  Equity                    4,500 shares   450,000    576,000    0.26%
Total                              5,363,954    5,546,250    2.52%
Mobileum, Inc.                       Santa Clara, CA                  
Term Loan  (12)  Second Lien  L+10.25%  0.75%  11.59%     5/1/2022  Software  $9,000,000   8,842,705    9,000,000    4.10%
Mobile Acquisition Holdings, LP Class A-2 Common Units  (4)  Equity                    750 units   750,000    830,000    0.38%
Total                              9,592,705    9,830,000    4.48%

 

 8 

 

 

Stellus Capital Investment Corporation

 

Consolidated Schedule of Investments – (unaudited)

September 30, 2017

 

Investments   Footnotes   Security   Coupon   LIBOR
floor
  Cash   PIK   Maturity   Headquarters/
Industry
  Principal
Amount/
Shares
  Amortized Cost     Fair 
Value (1)
    % of Net
Assets
 
MBS Holdings, Inc.                               Birmingham, AL                            
Series E Preferred Stock   (4)   Equity                       Media: Broadcasting & Subscription   2,774,695 shares     1,000,000       1,657,438       0.75 %
Series F Preferred Stock   (4)   Equity                           399,308 shares     206,682       342,562       0.16 %
Total                                         1,206,682       2,000,000       0.91 %
MTC Parent, L.P.                               Oak Brook, IL                            
Class A-2 Common Units   (4)   Equity                       Finance   750,000 shares     28,842       1,790,000       0.82 %
National Trench Safety, LLC, et al                               Houston, TX                            
Term Loan (SBIC)   (2)   Second Lien   11.50%       11.50%       3/31/2022   Construction & Building   $10,000,000     9,838,193       10,000,000       4.56 %
NTS Investors, LP Class A Common Units   (4)   Equity                           2,335 units     500,000       400,000       0.18 %
Total                                         10,338,193       10,400,000       4.74 %
OGS Holdings, Inc.                               Chantilly, Virginia                            
Series A Convertible Preferred Stock   (4)   Equity                       Services: Government   11,521 shares     50,001       90,000       0.04 %
Protect America, Inc.                               Austin TX                            
Term Loan (SBIC)   (2)(6)(12)   Second Lien   L+9.75%   1.00%   9.13%   2.00%   10/30/2020   Services: Consumer   $17,529,167     17,101,553       17,100,000       7.79 %
Refac Optical Group, et al                               Blackwood, NJ                            
Revolver   (10)(12)   First Lien   L+8.00%       9.23%       9/30/2018   Retail   $880,000     880,000       880,000       0.40 %
Term A Loan   (12)   First Lien   L+8.00%       9.23%       9/30/2018       $1,060,966     1,060,966       1,060,000       0.48 %
Term B Loan   (6)(12)   First Lien   L+10.75%       10.23%   1.75%   9/30/2018       $6,449,251     6,449,251       6,449,251       2.94 %
Total                                         8,390,217       8,389,251       3.82  
Resolute Industrial, LLC   (14)                           Wheeling, IL                            
Term Loan   (12)   First Lien   L+7.62%   1.00%   8.95%       7/26/2022   Capital Equipment   $3,797,222     3,724,778       3,710,000       1.69 %
Term Loan (SBIC)   (2)(12)   First Lien   L+7.62%   1.00%   8.95%       7/26/2022       $13,290,278     13,036,684       13,000,000       5.92 %
Resolute Industrial Holdings, LLC  Class A Preferred Units   (4)   Equity                           601 units     750,000       750,000       0.34 %
Total                                         17,511,462       17,460,000       7.95 %
Roberts-Gordon, LLC                               Buffalo, NY                            
Term Loan   (12)   Second Lien   L+10.00%   1.00%   11.34%       1/1/2022   Construction & Building   $7,200,000     7,062,051       7,060,000       3.22 %
Specified Air Solutions, LLC Class A Common Unites   (4)   Equity                           3,846 shares     500,045       500,000       0.23 %
Total                                         7,562,096       7,560,000       3.45 %
Sitel Worldwide Corporation                               Nashville, TN                            
Term Loan   (12)   Second Lien   L+9.50   1.00%   10.81%       9/18/2022   High Tech Industries   $10,000,000     9,842,608       9,900,000       4.51 %
Skopos Financial, LLC                               Irving, TX                            
Term Loan   (5)   Unsecured   12.00%       12.00%       1/31/2019   Finance   $20,000,000     19,861,629       19,900,000       9.06 %
Skopos Financial Group, LLC Class A Units   (4)(5)   Equity                           1,120,684 units     1,162,544       760,000       0.35 %
Total                                         21,024,173       20,660,000       9.41 %
SPM Capital, LLC                               Bloomington, MN                            
Term Loan   (3)   First Lien   L+6.50   1.50%   8.00%       10/31/2018   Healthcare & Pharmaceuticals   $5,599,563     5,597,302       5,599,563       2.55 %
SQAD, LLC                               Tarrytown, NY                            
Term Loan (SBIC)   (2)(6)   Unsecured   12.25%       11.00%   1.25%   4/30/2019   Media: Broadcasting & Subscription   $7,268,386     7,220,942       7,268,386       3.31 %
SQAD Holdco, Inc. Preferred Shares, Series A (SBIC)   (2)(4)   Equity                           5,624 shares     562,368       891,000       0.41 %
SQAD Holdco, Inc. Common Shares (SBIC)   (2)(4)   Equity                           5,800 shares     62,485       99,000       0.05 %
Total                                         7,845,795       8,258,386       3.77 %

 

 9 

 

 

Stellus Capital Investment Corporation

 

Consolidated Schedule of Investments – (unaudited)

September 30, 2017

 

Investments  Footnotes  Security  Coupon  LIBOR
floor
  Cash  PIK  Maturity  Headquarters/
Industry
  Principal
Amount/
Shares
  Amortized Cost   Fair 
Value (1)
   % of Net
Assets
 
TechInsights, Inc.                       Ottawa, Ontario                  
Term Loan  (5)(12)(13)  First Lien  L+6.50%  1.00%  8.72%     8/16/2022  High Tech Industries  $20,000,000   19,509,252    19,510,000    8.89%
Time Manufacturing Acquistion, LLC                       Waco, TX                  
Term Loan  (6)  Unsecured  11.50%     10.75%  0.75%  8/3/2023  Capital Equipment  $6,361,305   6,243,502    6,360,000    2.90%
Time Manufacturing Investments, LLC Class A Common  Units  (4)  Equity                    5,000 units   500,000    400,000    0.18%
Total                              6,743,502    6,760,000    3.08%
TFH Reliability, LLC                       Houston, TX                  
Term Loan (SBIC)  (2)(12)  Second Lien  L+10.75%  0.50%  12.09%     4/21/2022  Chemicals, Plastics, & Rubber  $5,875,000   5,771,794    5,875,000    2.68%
TFH Reliability Group, LLC Class A Common Units  (4)  Equity                    250,000 shares   250,000    280,000    0.13%
Total                              6,021,794    6,155,000    2.81%
U.S. Auto Sales, Inc. et al                       Lawrenceville, GA                  
Term Loan  (5)(12)  Second Lien  L+11.75%  1.00%  12.99%     6/8/2020  Finance  $4,500,000   4,472,766    4,500,000    2.05%
USASF Blocker II, LLC Common Units  (4)(5)  Equity                    441 units   441,000    607,600    0.28%
USASF Blocker LLC Common Units  (4)(5)  Equity                    9,000 units   9,000    12,400    0.01%
Total                              4,922,766    5,120,000    2.34%
VRI Intermediate Holdings, LLC                       Franklin, OH                  
Term Loan (SBIC)  (2)(12)  Second Lien  L+9.25%  1.00%  10.59%     10/31/2020  Healthcare & Pharmaceuticals  $9,000,000   8,834,759    8,820,000    4.02%
VRI Ultimate Holdings, LLC Class A Preferred Units  (4)  Equity                    326,797 shares   500,000    520,000    0.24%
Total                              9,334,759    9,340,000    4.26%
Wise Holding Corporation                       Salt Lake City, UT                  
Term Loan  (12)  Unsecured  L+11.00%  1.00%  12.34%     12/31/2021  Beverage, Food, & Tobacco  $1,250,000   1,234,484    1,010,000    0.46%
WCI Holdings LLC Class A Preferred Units  (4)  Equity                    56 units   55,550    0    0.00%
WCI Holdings LLC Class B Common  Units  (4)  Equity                    3,044 units   3,044    0    0.00%
Total                              1,293,078    1,010,000    0.46%
Zemax, LLC                       Redmond, WA                  
Term Loan (SBIC)  (2)(12)  Second Lien  L+10.00%  1.00%  11.24%     4/23/2020  Software  $3,962,500   3,919,079    3,960,000    1.80%
Zemax Software Holdings, LLC Preferred Units (SBIC)  (2)(4)  Equity                    24,500 units   5,000    9,400    0.00%
Zemax Software Holdings, LLC Common Units (SBIC)  (2)(4)  Equity                    5,000 shares   245,000    460,600    0.21%
Total                              4,169,079    4,430,000    2.01%
                                           
Total Non-controlled, non-affiliated investments                              351,197,270    354,357,607    161.41%
Net Investments                              352,249,455    355,297,607    161.84%
LIABILITIES IN EXCESS OF OTHER ASSETS                                   (135,761,565)   (61.84)%
NET ASSETS                                  $219,536,042    100.00%

 

 10 

 

 

Stellus Capital Investment Corporation

 

Consolidated Schedule of Investments – (unaudited)

September 30, 2017

 

(1)See Note 1 of the Notes to the Consolidated Financial Statements for a discussion of the methodologies used to value securities in the portfolio.

 

(2)Investments held by the SBIC Subsidiary, which include $6,696,574 of cash and $143,369,190 of investments (at par) are excluded from the obligations to the lenders of the Credit Facility. The Company’s obligations to the lenders of the Credit Facility, as defined in Note 9, are secured by a first priority security interest in all investments and cash and cash equivalents, except for investments held by the SBIC Subsidiary.

 

(3)These loans have LIBOR or Euro Floors which are higher than the current applicable LIBOR or Euro rates; therefore, the floors are in effect.

 

(4)Security is non-income producing.

 

(5)The investment is not a qualifying asset under the Investment Company Act of 1940, as amended. The Company may not acquire any non-qualifying assets unless, at the time of the acquisition, qualifying assets represent at least 70% of the Company’s total assets. Qualifying assets represent approximately 79% of the Company’s total assets as of September 30, 2017.

 

(6)Represents a PIK security. At the option of the issuer, interest can be paid in cash or cash and PIK. The percentage of PIK shown is the maximum PIK that can be elected by the issuer.

 

(7)Excluded from the investment is an undrawn revolver commitment in an amount not to exceed $666,666, with an interest rate of LIBOR plus 6.25% and a maturity of June 29, 2022. This investment is accruing an unused commitment fee of 0.50% per annum.

 

(8)In the fourth quarter of 2016, Binder & Binder National Social Security Disability, emerged from Chapter 11 Bankruptcy in the U.S. Bankruptcy Court, Southern District of New York. The investment’s fair value has been adjusted to reflect the court-approved unsecured claim distribution proceeds that have been awarded to the Company. As of this time, the Company does not expect to receive any additional repayment other than the court awarded amount.

  

(9)Excluded from the investment is an undrawn revolver commitment in an amount not to exceed $1,250,000, with an interest rate of LIBOR plus 9.00% and a maturity of October 22, 2019. This investment is accruing an unused commitment fee of 0.50% per annum.

 

(10)Excluded from the investment is an undrawn commitment in an amount not to exceed $520,000, with an interest rate of LIBOR plus 8.00% and a maturity of September 30, 2018. This investment is accruing an unused commitment fee of 0.50% per annum.

 

(11)Interest compounds annually on this loan at a rate of 11%. The interest does not increase the principal balance.

 

(12)These loans have LIBOR floors which are lower than the applicable LIBOR rates; therefore, the floors are not in effect.

 

(13)These loans are last-out term loans with contractual rates higher than the applicable LIBOR rates; therefore, the floors are not in effect.

 

(14)Excluded from the investment is an undrawn commitment in an amount not to exceed $5,750,000, with an interest rate of LIBOR plus 7.62% and a maturity of July 26, 2022. This investment is accruing an unused commitment fee of 0.50% per annum.

 

Abbreviation Legend

PIK — Payment-In-Kind

L — LIBOR

Euro — Euro Dollar

  

 11 

 

 

Stellus Capital Investment Corporation

 

Consolidated Schedule of Investments

December 31, 2016

 

                  Principal     % of
        LIBOR       Headquarters/ Amount/ Amortized Fair Net
Investments Footnotes Security Coupon floor Cash PIK Maturity Industry Shares Cost Value(1) Assets
Non-controlled, non-affiliated investments (2)                        
Abrasive Products & Equipment, LLC, et al               Deer Park, TX          
Term Loan (SBIC) (2)(3) Second Lien L+10.50% 1.00% 11.50%   3/5/2020 Chemicals, Plastics, & Rubber $ 5,325,237 $ 5,252,426 $ 5,277,059 3.09 %
APE Holdings, LLC Class A Units (4) Equity             375,000 units 375,000 399,550 0.23 %
Total                   5,627,426 5,676,609 3.32 %
Apex Environmental Resources Holdings, LLC               Amsterdam, OH          
Common Units (4) Equity           Environmental Industries 517 shares 517 525 0.00 %
Preferred Units (4) Equity             517 shares 517,439 524,911 0.31 %
Total                   517,956 525,436 0.31 %
Atkins Nutritionals Holdings II, Inc.               Denver, CO          
Term Loan (3) Second Lien L+8.50% 1.25% 9.75%   4/3/2019 Beverage, Food, & Tobacco $ 8,000,000 7,928,373 8,000,000 4.68 %
Binder & Binder National Social Security Disability Advocates, LLC               Hauppauge, NY          
Residual Claim From Term Loan (4)(14) Unsecured           Services: Consumer $ 1,000,000 1,000,000 722,059 0.42 %
Calero Software, LLC et al               Rochester, NY          
Term Loan (3) Second Lien L+9.50% 1.00% 10.50%   6/5/2019 Telecommunications $ 7,500,000 7,422,928 7,441,535 4.35 %
Managed Mobility Holdings, LLC Partnership Units (4) Equity             8,932 units 525,000 152,855 0.09 %
Total                   7,947,928 7,594,390 4.44 %
C.A.R.S. Protection Plus, Inc               Murrysville, PA          
Term Loan (12) First Lien L+8.50% 0.50% 9.03%   12/31/2020 Automotive $ 101,911 100,207 101,911 0.06 %
Term Loan (SBIC) (2)(12) First Lien L+8.50% 0.50% 9.03%   12/31/2020   $ 7,949,027 7,785,147 7,949,027 4.65 %
CPP Holdings LLC Class A Common Units (4) Equity             149,828 shares 149,828 250,166 0.15 %
Total                   8,035,182 8,301,104 4.86 %
Catapult Learning, LLC et al               Camden, NJ          
Term Loan (13) First Lien L+6.50% 1.00% 8.99%   7/16/2020 Education $12,500,000 12,404,725 12,498,701 7.31 %
Colford Capital Holdings, LLC               New York, NY          
Delay Draw Term Loan #1 (5) Unsecured 12.00%   12.00%   5/31/2018 Finance $12,500,000 12,401,505 12,477,883 7.30 %
Delay Draw Term Loan #2 (5) Unsecured 12.00%   12.00%   5/31/2018   $ 2,000,000 1,980,173 1,996,461 1.17 %
Delay Draw Term Loan #4 (5) Unsecured 12.00%   12.00%   5/31/2018   $ 5,000,000 4,960,146 4,991,153 2.92 %
CC Blocker 1, LLC Preferred Units (4)(5) Equity             38,893 units 557,143 671,462 0.39 %
Total                   19,898,967 20,136,959 11.78 %

 

 12 

 

 

Stellus Capital Investment Corporation

 

Consolidated Schedule of Investments — (continued)

December 31, 2016

 

                  Principal     % of
        LIBOR       Headquarters/ Amount/ Amortized Fair Net
Investments Footnotes Security Coupon floor Cash PIK Maturity Industry Shares Cost Value(1) Assets
Doskocil Manufacturing Company, Inc.               Arlington, TX          
Term Loan (SBIC) (2)(13) First Lien L+6.00% 1.00% 9.40%   11/10/2020 Consumer goods: non-durable $ 8,750,000 $ 8,626,143 $ 8,750,000 5.12 %
Douglas Products & Packaging Company, LLC               Liberty, MO          
Term Loan (SBIC) (2)(12) Second Lien L+10.50% 0.50% 11.50%   12/31/2020 Chemicals, Plastics, & Rubber $ 9,000,000 8,876,203 9,000,000 5.27 %
Fumigation Holdings, Inc. Class A Common Stock (4) Equity             250 shares 250,000 478,950 0.28 %
Total                   9,126,203 9,478,950 5.55 %
Eating Recovery Center, LLC               Denver, CO          
Term Loan (6) Unsecured 13.00%   12.00% 1.00% 6/28/2018 Healthcare & Pharmaceuticals $18,400,000 18,271,406 18,348,093 10.74 %
ERC Group Holdings LLC Class A Units (4) Equity             17,820 units 1,655,274 2,631,558 1.54 %
Total                   19,926,680 20,979,651 12.28 %
Empirix Inc.               Billerica, MA          
Term Loan (3) Second Lien L+9.50% 1.00% 10.50%   5/1/2020 Software $11,657,850 11,517,953 11,582,173 6.78 %
Term Loan (SBIC) (2)(3) Second Lien L+9.50% 1.00% 10.50%   5/1/2020   $ 9,750,000 9,631,895 9,686,708 5.67 %
Empirix Holdings I, Inc. Common Shares, Class A . (4) Equity             1,304 shares 1,304,232 1,659,024 0.97 %
Empirix Holdings I, Inc. Common Shares, Class B . (4) Equity             1,317,406 shares 13,174 16,758 0.01 %
Total                   22,467,254 22,944,663 13.43 %
Energy Labs Inc.               Houston, TX          
Term Loan (SBIC) (2)(13) First Lien L+7.00% 0.50% 11.03%   9/29/2021 Energy: Oil & Gas $ 5,300,000 5,197,928 5,290,561 3.10 %
Energy Labs Holding Corp. Common Stock (4) Equity             500 shares 500,000 500,000 0.29 %
Total                   5,697,928 5,790,561 3.39 %
EOS Fitness OPCO Holdings, LLC               Phoenix, AZ          
Term Loan (SBIC) (2)(3) First Lien L+8.75% 0.75% 9.50%   12/30/2019 Hotel, Gaming, & Leisure $ 3,331,184 3,287,412 3,331,184 1.95 %
EOS Fitness Holdings, LLC Class A Preferred Units (4) Equity             118 shares 117,670 77,414 0.05 %
EOS Fitness Holdings, LLC Class B Common Units (4) Equity             3,017 shares 3,017 1,985 0.00 %
Total                   3,408,099 3,410,583 2.00  
Furniture Factory Outlet, LLC               Fort Smith, AR          
Term Loan (12) First Lien L+9.00% 0.50% 10.00%   6/10/2021 Consumer goods: Durable $ 9,875,000 9,695,423 9,809,056 5.74 %
Furniture Factory Holdings, LLC Term Loan (15) Unsecured 11.00%       2/3/2021   $ 122,823 122,823 122,823 0.07 %
Sun Furniture Factory, LP Common Units (4) Equity             13,445 shares 94,569 170,404 0.10 %
Total                   9,912,815 10,102,283 5.91 %

 

 13 

 

 

Stellus Capital Investment Corporation

 

Consolidated Schedule of Investments — (continued)

December 31, 2016

 

                  Principal     % of
        LIBOR       Headquarters/ Amount/ Amortized Fair Net
Investments Footnotes Security Coupon floor Cash PIK Maturity Industry Shares Cost Value(1) Assets
GK Holdings, Inc.               Cary, NC          
Term Loan (3) Second Lien L+9.50% 1.00% 10.50%   1/30/2022 Education $5,000,000 $ 4,920,321 $ 5,000,000 2.93 %
Glori Energy Production Inc.               Houston, TX          
Term Loan (3)(4)(6) (7)(8) First Lien L+12.00% 1.00% 11.00% 2.00% 3/14/2017 Energy: Oil & Gas $1,624,250 1,622,130 864,101 0.51 %
Good Source Solutions, Inc.               Carlsbad, CA          
Term Loan (13) First Lien L+7.25% 0.50% 11.38%   7/15/2021 Beverage, Food, & Tobacco $1,350,000 1,325,011 1,346,203 0.79 %
Term Loan (SBIC) (2)(13) First Lien L+7.25% 0.50% 11.38%   7/15/2021   $1,200,000 1,177,788 1,196,625 0.70 %
Good Source Holdings, LLC Class A Preferred Units (4) Equity             159 shares 159,375 136,633 0.08 %
Good Source Holdings, LLC Class B Common Units (4) Equity             4,482 shares 0 0 0.00 %
Total                   2,662,174 2,679,461 1.57 %
Grupo HIMA San Pablo, Inc., et al               San Juan, PR          
Term Loan (3) First Lien L+7.00% 1.50% 8.50%   1/31/2018 Healthcare & Pharmaceuticals $4,812,500 4,787,801 4,693,463 2.75 %
Term Loan   Second Lien 13.75%   13.75%   7/31/2018   $4,000,000 3,924,736 3,535,591 2.07 %
Total                   8,712,537 8,229,054 4.82 %
Hollander Sleep Products, LLC               Boca Raton, FL          
Term Loan (3) First Lien L+8.00% 1.00% 9.00%   10/21/2020 Services: Consumer $7,286,790 7,211,543 7,286,790 4.26 %
Dream II Holdings, LLC Class A Common Units (4) Equity             250,000 units 242,304 145,030 0.08 %
Total                   7,453,847 7,431,820 4.34 %
Hostway Corporation               Chicago, IL          
Term Loan (3) Second Lien L+8.75% 1.25% 10.00%   12/13/2020 High Tech Industries $6,750,000 6,661,202 5,832,000 3.41 %
HUF Worldwide, LLC               Los Angeles, CA          
Revolver (9)(12) First Lien L+9.00% 0.50% 9.85%   10/22/2019 Retail $ 375,000 375,000 375,000 0.22 %
Term Loan (12) First Lien L+9.00% 0.50% 9.85%   10/22/2019   $3,651,709 3,603,959 3,651,709 2.14 %
Term Loan (SBIC) (2)(12) First Lien L+9.00% 0.50% 9.85%   10/22/2019   $6,138,648 6,063,652 6,138,648 3.59 %
HUF Holdings, LLC Common Class A Units (4) Equity             616,892 units 624,427 624,427 0.37 %
Total                   10,667,038 10,789,784 6.32 %
Keais Records Service, LLC               Houston, TX          
Term Loan (12) Second Lien L+10.50% 0.50% 11.50%   6/30/2022 Services: Business $7,750,000 7,620,000 7,620,000 4.46 %
Keais Holdings, LLC Class A Units (4) Equity             148,335 units 775,000 775,000 0.45 %
Total                   8,395,000 8,395,000 4.91 %
KidKraft, Inc.               Dallas, TX          
Term Loan (6) Second Lien 12.00%   11.00% 1.00% 3/30/2022 Consumer Goods: Durable $9,222,874 9,044,671 9,044,671 5.29 %
Livingston International, Inc.               Toronto, Ontario          
Term Loan (3)(5) Second Lien L+8.25% 1.25% 9.50%   4/18/2020 Transportation: Cargo $6,841,739 6,765,448 6,692,648 3.92 %

 

 14 

 

 

Stellus Capital Investment Corporation

 

Consolidated Schedule of Investments — (continued)

December 31, 2016

 

                  Principal     % of
        LIBOR       Headquarters/ Amount/ Amortized Fair Net
Investments Footnotes Security Coupon floor Cash PIK Maturity Industry Shares Cost Value(1) Assets
Madison Logic, Inc.               New York, NY          
Term Loan (SBIC) (2)(12) First Lien L+8.00% 0.50% 8.76%   11/30/2021 Media: Broadcasting & Subscription $ 5,000,000 $ 4,950,667 $ 4,950,667 2.90 %
Madison Logic Holdings, Inc. Common Stock (SBIC) (2)(4) Equity             5,000 shares 50,000 50,000 0.03 %
Madison Logic Holdings, Inc. Series A Preferred Stock (SBIC) (2)(4) Equity             4,500 shares 450,000 450,000 0.26 %
Total                   5,450,667 5,450,667 3.19 %
Mobileum, Inc.               Santa Clara, CA          
Term Loan (12) Second Lien L+10.25% 0.75% 11.25%   5/1/2022 Software $ 9,000,000 8,823,965 8,823,965 5.16 %
Mobile Acquisition Holdings, LP Class A-2 Common Units (4) Equity             750 units 750,000 750,000 0.44 %
Total                   9,573,965 9,573,965 5.60 %
Momentum Telecom Inc., et al               Birmingham, AL          
Term Loan (3) First Lien L+8.50% 1.00% 9.50%   3/10/2019 Media: Broadcasting & Subscription $ 6,468,196 6,395,759 6,403,563 3.75 %
Term Loan (SBIC) (2)(3) First Lien L+8.50% 1.00% 9.50%   3/10/2019   $ 8,687,486 8,589,400 8,600,676 5.03 %
MBS Holdings, Inc. Series E Preferred Stock (4) Equity             2,774,695 shares 1,000,000 1,309,492 0.77 %
MBS Holdings, Inc. Series F Preferred Stock (4) Equity             399,308 shares 206,682 270,648 0.16 %
Total                   16,191,841 16,584,379 9.71 %
MTC Intermediate Holdco, Inc.               Oak Brook, IL          
Term Loan (3) Second Lien L+9.50% 1.00% 10.50%   5/31/2022 Finance $ 575,000 564,899 575,000 0.34 %
Term Loan (SBIC) (2)(3) Second Lien L+9.50% 1.00% 10.50%   5/31/2022   $ 9,750,000 9,578,720 9,750,000 5.71 %
MTC Parent, L.P. Class A-2 Common Units (4) Equity             750,000 shares 750,000 1,433,281 0.84 %
Total                   10,893,619 11,758,281 6.89 %
OG Systems, LLC               Chantilly, Virginia          
Term Loan (3)(6) Unsecured L+11.00% 1.00% 11.00% 1.00% 1/22/2020 Services: Government $ 4,028,288 3,979,529 3,992,337 2.34 %
OGS Holdings, Inc. Series A Convertible Preferred Stock (4) Equity             11,521 shares 50,001 68,182 0.04 %
Total                   4,029,530 4,060,519 2.38 %
Refac Optical Group, et al               Blackwood, NJ          
Revolver (10)(12) First Lien L+8.00%   8.77%   9/30/2018 Retail $ 400,000 400,000 400,000 0.23 %
Term A Loan (11)(12) First Lien L+8.00%   8.77%   9/30/2018   $ 1,502,736 1,502,736 1,502,736 0.88 %
Term B Loan (6)(11)(12) First Lien L+10.75%   9.77% 1.75% 9/30/2018   $ 6,403,267 6,403,267 6,403,267 3.75 %
Total                   8,306,003 8,306,003 4.86  
Securus Technologies Holdings, Inc.               Dallas, TX          
Term Loan (3) Second Lien L+7.75 1.25% 9.00%   4/30/2021 Telecommunications $ 8,500,000 8,455,863 8,415,000 4.92 %
Sitel Worldwide Corporation               Nashville, TN          
Term Loan (3) Second Lien L+9.50 1.00% 10.50%   9/18/2022 High Tech Industries $10,000,000 9,825,536 9,550,000 5.59 %

 

 15 

 

 

Stellus Capital Investment Corporation

 

Consolidated Schedule of Investments — (continued)

December 31, 2016

 

                  Principal     % of
        LIBOR       Headquarters/ Amount/ Amortized Fair Net
Investments Footnotes Security Coupon floor Cash PIK Maturity Industry Shares Cost Value(1) Assets
Skopos Financial, LLC               Irving, TX        
Term Loan (5) Unsecured 12.00%   12.00%   1/31/2019 Finance $20,000,000 $19,791,938 $19,618,086 11.48 %
Skopos Financial Group, LLC Class A Units (4)(5) Equity             1,120,684 units 1,162,544 1,012,266 0.59 %
Total                   20,954,482 20,630,352 12.07 %
SPM Capital, LLC               Bloomington, MN          
Term Loan (3) First Lien L+5.50 1.50% 7.00%   10/31/2017 Healthcare & Pharmaceuticals $ 6,387,916 6,362,834 6,374,800 3.73 %
SQAD, LLC               Tarrytown, NY          
Term Loan (SBIC) (2)(6) Unsecured 12.25%   11.00% 1.25% 4/30/2019 Media: Broadcasting & Subscription $ 7,245,241 7,179,977 7,206,517 4.22 %
SQAD Holdco, Inc. Preferred Shares, Series A (SBIC) (2)(4) Equity             5,624 shares 562,368 738,067 0.43 %
SQAD Holdco, Inc. Common Shares (SBIC) (2)(4) Equity             5,800 shares 62,485 82,007 0.05 %
Total                   7,804,830 8,026,591 4.70 %
Stratose Intermediate Holdings, II, LLC               Atlanta, GA          
Term Loan (3) Second Lien L+9.50% 1.00% 10.50%   7/26/2022 Services: Business $15,000,000 14,705,967 15,000,000 8.78 %
Atmosphere Aggregator Holdings II, LP Common Units (4) Equity             254,250 units 254,250 630,373 0.37 %
Atmosphere Aggregator Holdings, LP Common Units (4) Equity             750,000 units 750,000 1,859,506 1.09 %
Total                   15,710,217 17,489,879 10.24 %
360 Holdings III Corp               Irvine, CA Consumer goods:          
Term Loan (3) First Lien L+9.00% 1.00% 10.00%   10/1/2021 non-durable $ 3,950,000 3,811,652 3,950,000 2.31 %
Telecommunications Management, LLC               Sikeston, MO          
Term Loan (3) Second Lien L+8.00% 1.00% 9.00%   10/30/2020 Media: Broadcasting & Subscription $ 5,000,000 4,970,522 4,962,649 2.90 %
TFH Reliability, LLC   Second           Houston, TX          
Term Loan (SBIC) (2)(12) Lien L+10.75% 0.50% 11.75%   4/21/2022 Chemicals, Plastics, & Rubber $ 5,875,000 5,759,983 5,759,983 3.37 %
TFH Reliability Group, LLC Class A Common Units (4) Equity             250,000 shares 250,000 250,000 0.15 %
Total                   6,009,983 6,009,983 3.52 %
U.S. Auto Sales, Inc. et al               Lawrenceville, GA          
Term Loan (3)(5) Second Lien L+11.75% 1.00% 12.75%   6/8/2020 Finance $ 4,500,000 4,466,518 4,500,000 2.63 %
USASF Blocker II, LLC Common Units (4)(5) Equity             441 units 441,000 469,751 0.27 %
USASF Blocker LLC Common Units (4)(5) Equity             9,000 units 9,000 9,587 0.01 %
Total                   4,916,518 4,979,338 2.91 %
Vandelay Industries Finance, LLC, et al               La Vergne, TN          
    Second           Construction &          
Term Loan (6) Lien 11.75%   10.75% 1.00% 11/12/2019 Building $ 2,500,000 2,485,347 2,495,701 1.46 %
Vision Media Management & Fulfillment, LLC               Valencia, CA          
Term Loan (SBIC) (2)(13) First Lien L+8.50% 1.00% 10.22%   1/27/2021 Media: Broadcasting & Subscription $ 1,613,517 1,584,016 1,613,517 0.94 %

 

 16 

 

 

Stellus Capital Investment Corporation

 

Consolidated Schedule of Investments — (continued)

December 31, 2016

 

                  Principal     % of
        LIBOR       Headquarters/ Amount/ Amortized Fair Net
Investments Footnotes Security Coupon floor Cash PIK Maturity Industry Shares Cost Value(1) Assets
Wise Holding Corporation               Salt Lake City, UT        
Term Loan (3) Unsecured L+10.00% 1.00% 11.00%   12/31/2021 Beverage, Food, & Tobacco $1,250,000 $    1,232,489 $       250,000 0.73 %
WCI Holdings LLC Class A Preferred Units (4) Equity             56 units 55,550 58,579 0.03 %
WCI Holdings LLC Class B Common Units (4) Equity             3,044 units 3,044 3,210 0.00 %
Total                   1,291,083 1,311,789 0.76 %
Zemax, LLC               Redmond, WA          
Term Loan (SBIC) (2)(3) Second Lien L+10.00% 1.00% 11.00%   4/23/2020 Software $3,962,500 3,908,696 3,941,705 2.31 %
Zemax Software Holdings, LLC Preferred Units (SBIC) (2)(4) Equity             24,500 units 5,000 5,406 0.00 %
Zemax Software Holdings, LLC Common Units (SBIC) (2)(4) Equity             5,000 shares 245,000 264,879 0.16 %
Total                   4,158,696 4,211,990 2.47 %
Total Non-controlled, non-affiliated investments                   $ 362,217,251 $  365,625,891 214 %
Net Investments                   $ 362,217,251 $  365,625,891 185.52 %
LIABILITIES IN EXCESS OF OTHER ASSETS                     (194,744,106) (85.52) %
NET ASSETS                     $  170,881,785 100.00 %

 

 

(1)See Note 1 of the Notes to Consolidated Financial Statements for a discussion of the methodologies used to value securities in the portfolio.

 

(2)The Company’s obligations to the lenders of the Credit Facility are secured by a first priority security interest in all non-controlled nonaffiliated investments and cash and cash equivalents, but exclude $3,457,351 of cash and cash equivalents and $100,252,693 of investments (at par) that are held by Stellus Capital SBIC LP. See Note 1 of the Notes to the Consolidated Financial Statements for discussion.  

 

(3)These loans have LIBOR or Euro Floors which are higher than the current applicable LIBOR or Euro rates; therefore, the floors are in effect.

 

(4)Security is non-income producing.

 

(5)The investment is not a qualifying asset under the Investment Company Act of 1940, as amended. The Company may not acquire any non-qualifying assets unless, at the time of the acquisition, qualifying assets represent at least 70% of the Company’s total assets. Qualifying assets represent approximately 85% of the Company’s total assets.

 

(6)Represents a payment-in-kind security. At the option of the issuer, interest can be paid in cash or cash and PIK. The percentage of PIK shown is the maximum PIK that can be elected by the issuer.  

 

(7)Investment has been on non-accrual since December 1, 2016.

 

(8)Investment is in payment default.

 

(9)Excluded from the investment is an undrawn revolver commitment in an amount not to exceed $875,000, with an interest rate of LIBOR plus 9.00% and a maturity of October 22, 2019. This investment is accruing an unused commitment fee of 0.50% per annum.

 

(10)Excluded from the investment is an undrawn commitment in an amount not to exceed $1,000,000, with an interest rate of LIBOR plus 8.00% and a maturity of September 30, 2018. This investment is accruing an unused commitment fee of 0.50% per annum.

 

(11)Variable rate loans bear interest at a rate that may be determined by reference to either LIBOR (which can include one-, two-, three- or six month LIBOR) or an alternate base rate (which can include the Federal Funds Effective Rate or the Prime Rate), at the borrower’s option, which rates reset periodically based on the terms of the loan agreement.

 

 17 

 

 

Stellus Capital Investment Corporation

 

Consolidated Schedule of Investments — (continued)

December 31, 2016

 

(12)These loans have LIBOR floors which are lower than the applicable LIBOR rates; therefore, the floors are not in effect.

 

(13)These loans are last-out term loans with contractual rates higher than the applicable LIBOR rates; therefore, the floors are not in effect.

 

(14)In the fourth quarter of 2016 Binder, emerged from Chapter 11 Bankruptcy in the U.S. Bankruptcy Court, Southern District of New York. The investment’s cost has been adjusted to reflect the court-approved unsecured claim distribution proceeds that have been awarded to the Company. As of this time we do not expect to receive any additional repayment other than what the court has awarded.

 

(15)Interest compounds annually on this loan at a rate of 11%. The interest does not increase the principal balance.

 

Abbreviation Legend

PIK — Payment-In-Kind
L — LIBOR

Euro — Euro Dollar

 

 18 

 

 

STELLUS CAPITAL INVESTMENT CORPORATION

 

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

September 30, 2017

(Unaudited)

 

NOTE 1 — NATURE OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES

 

Nature of Operations

 

Stellus Capital Investment Corporation (“we”, “us”, “our” and the “Company”) was formed as a Maryland corporation on May 18, 2012 (“Inception”) and is an externally managed, closed-end, non-diversified investment management company. The Company is applying the guidance of Accounting Standards Codification (“ASC”) Topic 946, Financial Services Investment Companies. The Company has elected to be regulated as a business development company (“BDC”) under the Investment Company Act of 1940, as amended (the “1940 Act”) and treated as a regulated investment company (“RIC”) under Subchapter M of the Internal Revenue Code of 1986, as amended (the “Code”), for U.S. federal income tax purposes. The Company’s investment activities are managed by our investment adviser, Stellus Capital Management, LLC (“Stellus Capital” or the “Advisor”).

 

The Company has issued a total of 15,854,413 shares and raised $234,399,463 in gross proceeds since inception, incurring $7,540,725 in offering expenses and sales load fees for net proceeds from offerings of $226,858,738. The Company’s shares are currently listed on the New York Stock Exchange under the symbol “SCM”. See Note 4 for further details.

 

The Company has established the following wholly owned subsidiaries: SCIC — Consolidated Blocker 1, Inc., SCIC — SKP Blocker 1, Inc., SCIC — APE Blocker 1, Inc., SCIC — CC Blocker 1, Inc., SCIC — ERC Blocker 1, Inc., SCIC — Hollander Blocker 1, Inc., and SCIC — HUF Blocker 1, Inc., which are structured as Delaware entities, to hold equity or equity-like investments in portfolio companies organized as limited liability companies, or LLCs (or other forms of pass-through entities) (collectively, the “Taxable Subsidiaries”). The Taxable Subsidiaries are consolidated for U.S. generally accepted accounting principles (“U.S. GAAP”) reporting purposes, and the portfolio investments held by them are included in the consolidated financial statements.

 

On June 14, 2013, we formed Stellus Capital SBIC, LP (the “SBIC subsidiary”), a Delaware limited partnership, and its general partner, Stellus Capital SBIC GP, LLC, a Delaware limited liability company, as wholly owned subsidiaries of the Company. On June 20, 2014, the SBIC subsidiary received a license from the U.S. Small Business Administration (“SBA”) to operate as a small business investment company (“SBIC”) under Section 301(c) of the Small Business Investment Company Act of 1958. The SBIC subsidiary and its general partner are consolidated for U.S. GAAP reporting purposes, and the portfolio investments held by it are included in the consolidated financial statements.

 

The SBIC license allows the SBIC subsidiary to obtain leverage by issuing SBA-guaranteed debentures, subject to the issuance of a capital commitment by the SBA and other customary procedures. SBA-guaranteed debentures are non-recourse, interest only debentures with interest payable semi-annually and have a ten year maturity. The principal amount of SBA-guaranteed debentures is not required to be paid prior to maturity but may be prepaid at any time without penalty. The interest rate of SBA-guaranteed debentures is fixed on a semi-annual basis at a market-driven spread over U.S. Treasury Notes with 10-year maturities. The SBA, as a creditor, will have a superior claim to the SBIC’s assets over the Company’s stockholders in the event the Company liquidates the SBIC subsidiary or the SBA exercises its remedies under the SBA-guaranteed debentures issued by the SBIC subsidiary upon an event of default. See footnote (2) of the Consolidated Schedule of Investments. SBA regulations currently limit the amount that an SBIC may borrow to a maximum of $150 million when it has at least $75 million in regulatory capital, as such term is defined by the SBA, receives a capital commitment from the SBA and has been through an examination by the SBA subsequent to licensing. As of September 30, 2017 and December 31, 2016, the SBIC subsidiary had $58.5 and $38.0 million of regulatory capital, respectively, as such term is defined by the SBA, and has received commitments from the SBA of $65.0 million. As of both September 30, 2017 and December 31, 2016, the SBIC subsidiary had $65.0 million of SBA-guaranteed debentures (the “SBA Debentures”) outstanding.

 

 19 

 

  

STELLUS CAPITAL INVESTMENT CORPORATION

 

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

September 30, 2017

(Unaudited)

 

The Company’s investment objective is to maximize the total return to its stockholders in the form of current income and capital appreciation through debt and related equity investments in middle-market companies. The Company seeks to achieve its investment objective by originating and investing primarily in private U.S. middle-market companies (typically those with $5.0 million to $50.0 million of EBITDA (earnings before interest, taxes, depreciation and amortization)) through first lien, second lien, unitranche and mezzanine debt financing, with corresponding equity co-investments. The Company sources investments primarily through the extensive network of relationships that the principals of Stellus Capital have developed with financial sponsor firms, financial institutions, middle-market companies, management teams and other professional intermediaries.

 

Summary of Significant Accounting Policies

 

Basis of Presentation

 

The accompanying unaudited consolidated financial statements have been prepared on the accrual basis of accounting in conformity with U.S. GAAP for interim financial information and pursuant to the requirements for reporting on Form 10-Q and Article 10 of Regulation S-X under the Securities Exchange Act of 1934, as amended (the “Exchange Act”). Accordingly, certain disclosures accompanying the annual financial statements prepared in accordance with U.S. GAAP are omitted. The unaudited consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries.

 

In the opinion of management, the unaudited consolidated financial results included herein contain all adjustments, consisting solely of normal recurring accruals, considered necessary for the fair presentation of the financial statements for the interim periods included herein. The results of operations for the three and nine months ended September 30, 2017 and September 30, 2016 are not necessarily indicative of the operating results to be expected for the full year. Also, the unaudited consolidated financial statements and notes should be read in conjunction with the audited consolidated financial statements and notes thereto for the year ended December 31, 2016. Certain reclassifications have been made to certain prior period balances to conform with current presentation. In accordance with Regulation S-X under the Securities Act of 1933, as amended, and the Exchange Act, the Company does not consolidate portfolio company investments. The accounting records of the Company are maintained in U.S. dollars.

 

Portfolio Investment Classification

 

The Company classifies its portfolio investments in accordance with the requirements of the 1940 Act as follows: (a) “Control Investments” are defined as investments in which the Company owns more than 25% of the voting securities or has rights to maintain greater than 50% of the board representation, (b) “Affiliate Investments” are defined as investments in which the Company owns between 5% and 25% of the voting securities and does not have rights to maintain greater than 50% of the board representation, and (c) “Non-controlled, non-affiliate investments” are defined as investments that are neither Control Investments or Affiliate Investments.

 

Cash and Cash Equivalents

 

At September 30, 2017, cash balances totaling $3,939,943 exceeded FDIC insurance protection levels of $250,000 by $3,689,943, subjecting the Company to risk related to the uninsured balance. In addition, at September 30, 2017, the Company held $7,726,862 in cash equivalents. All of the Company’s cash deposits are held at large established high credit quality financial institutions and management believes that risk of loss associated with any uninsured balances is remote. Cash consists of bank demand deposits. We deem certain U.S. Treasury Bills and other high-quality, short-term debt securities as cash equivalents.

 

Use of Estimates

 

The preparation of the consolidated statements of assets and liabilities in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amount of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements. Changes in the economic environment, financial markets and any other parameters used in determining these estimates could cause actual results to differ materially.

 

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STELLUS CAPITAL INVESTMENT CORPORATION

 

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

September 30, 2017

(Unaudited)

 

Deferred Financing Costs, Prepaid Loan Fees on SBA Debentures and Prepaid Loan Structure Fees

 

Deferred financing costs, prepaid loan fees on the SBA Debentures and prepaid loan structure fees consist of fees and expenses paid in connection with the closing of our Credit Facility, the 2019 Notes (as defined in Note 10), the 2022 Notes (as defined in Note 10) and SBA Debentures and are capitalized at the time of payment. These are costs are presented as a direct deduction to the carrying amount of the respective liability and amortized using the straight line method over the term of the respective instrument. As of September 30, 2017, the Company has capitalized prepaid loan structure fees of $47,453 related to the refinancing of our credit facility with Amegy Bank. See subsequent events for further details.

 

Offering Costs

 

Offering costs consist of fees and expenses incurred in connection with the offer and sale of the Company’s common stock and bonds, including legal, accounting, printing fees and other related expenses, as well as costs incurred in connection with the filing of a shelf registration statement. These costs are capitalized when incurred and recognized as a reduction of offering proceeds when the offering is consummated. The Company incurred $299,961 in connection with the offering of our stock in April 2017 and the At-the-Market (ATM) offering program, which began in August 2017. These costs are shown on the Consolidated Statement of Changes in Net Assets as a reduction to Paid-in Capital. See Note 4 for further discussion.

 

Investments

 

As a BDC, the Company will generally invest in illiquid loans and securities including debt and equity securities of private middle-market companies. Under procedures established by our board of directors, the Company intends to value investments for which market quotations are readily available at such market quotations. The Company will value these investments based on these market values from an independent pricing service or at the median between the bid and ask prices obtained from at least two brokers or dealers (if available, otherwise by a principal market maker or a primary market dealer). Debt and equity securities that are not publicly traded or whose market prices are not readily available will be valued at fair value as determined in good faith by our board of directors. Such determination of fair values may involve subjective judgments and estimates. The Company also engages independent third party valuation providers to review the valuation of each portfolio investment that does not have a readily available market quotation at least twice annually.

 

Investments purchased within 90 days of the valuation date will be valued at cost plus accreted discount, or minus amortized premium, which approximates fair value. With respect to unquoted securities, our board of directors, will value each investment considering, among other measures, discounted cash flow models, comparisons of financial ratios of peer companies that are public and other factors. When an external event such as a purchase transaction, public offering or subsequent equity sale occurs, the board of directors will use the pricing indicated by the external event to corroborate and/or assist us in our valuation. Because the Company expects that there will not be a readily available market for many of the investments in its portfolio, the Company expects to value most of its portfolio investments at fair value as determined in good faith by the board of directors using a documented valuation policy and a consistently applied valuation process. Due to the inherent uncertainty of determining the fair value of investments that do not have a readily available market value, the fair value of our investments may differ significantly from the values that would have been used had a readily available market value existed for such investments, and the differences could be material.

 

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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

September 30, 2017

(Unaudited)

 

In following these approaches, the types of factors that will be taken into account in fair value pricing investments will include, as relevant, but not be limited to:

 

available current market data, including relevant and applicable market trading and transaction comparables;

 

applicable market yields and multiples;

 

security covenants;

 

call protection provisions;

 

information rights;

 

the nature and realizable value of any collateral;

 

the portfolio company’s ability to make payments, its earnings and discounted cash flows and the markets in which it does business;

 

comparisons of financial ratios of peer companies that are public;

 

comparable merger and acquisition transactions; and

 

the principal market and enterprise values.

 

Fair Value Measurements

 

We account for substantially all of our financial instruments at fair value in accordance with ASC Topic 820 – Fair Value Measurements and Disclosures (“ASC Topic 820”). ASC Topic 820 defines fair value, establishes a framework used to measure fair value and requires disclosures for fair value measurements, including the categorization of financial instruments into a three-level hierarchy based on the transparency of valuation inputs. ASC Topic 820 requires disclosure of the fair value of financial instruments for which it is practical to estimate such value.  We believe that the carrying amounts of our financial instruments such as cash, receivables and payables approximate the fair value of these items due to the short maturity of these instruments. This is considered a Level 1 valuation technique. The carrying value of our Credit Facility approximates fair value because the interest rate adjusts to the market interest rate (Level 3 input). See Note 6 below for further discussion regarding the fair value measurements and hierarchy.

 

Revenue Recognition

 

We record interest income on an accrual basis to the extent such interest is deemed collectible. For loan and debt securities with contractual payment-in-kind (‘‘PIK’’) interest, which represents contractual interest accrued and added to the loan balance that generally becomes due at maturity, we do not accrue PIK interest if the portfolio company valuation indicates that such PIK interest is not collectible. We will not accrue interest on loans and debt securities if we have reason to doubt our ability to collect such interest. Loan origination fees, original issue discount and market discount or premium are capitalized, and we then accrete or amortize such amounts using the effective interest method as interest income. Upon the prepayment of a loan or debt security, any unamortized loan origination fee is recorded as interest income. We record prepayment premiums on loans and debt securities as other income. Dividend income, if any, will be recognized on the ex-dividend date.

 

We have investments in our portfolio that contain a PIK interest provision. Any PIK interest is added to the principal balance of such investments and is recorded as income, if the portfolio company valuation indicates that such PIK interest is collectible. In order to maintain our status as a RIC, substantially all of this income must be distributed to stockholders, even if we have not collected any cash.

 

Net Realized Gains or Losses and Net Change in Unrealized Appreciation or Depreciation

 

We measure realized gains or losses by the difference between the net proceeds from the repayment, sale or disposition and the amortized cost basis of the investment, without regard to unrealized appreciation or depreciation previously recognized. Net change in unrealized appreciation or depreciation reflects the change in portfolio investment values during the reporting period, including any reversal of previously recorded unrealized appreciation or depreciation, when gains or losses are realized.

 

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STELLUS CAPITAL INVESTMENT CORPORATION

 

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

September 30, 2017

(Unaudited)

 

Investment Transaction Costs

 

Costs that are material associated with an investment transaction, including legal expenses, are included in the cost basis of purchases and deducted from the proceeds of sales unless such costs are reimbursed by the borrower.

 

Receivables and Payables for Unsettled Securities Transaction

 

The Company records all investments on a trade date basis.

 

U.S. Federal Income Taxes

 

The Company has elected to be treated as a RIC under Subchapter M of the Code of 1986, as amended, and to operate in a manner so as to qualify for the tax treatment applicable to RICs. In order to qualify as a RIC, among other things, the Company is required to timely distribute to its stockholders at least 90% of investment company taxable income, as defined by the Code, for each year. So long as the Company maintains its status as a RIC, it generally will not pay corporate-level U.S. federal income taxes on any ordinary income or capital gains that it distributes annually to its stockholders as dividends. Any tax liability related to income earned by the Company represents obligations of the Company’s investors and will not be reflected in the consolidated financial statements of the Company.

 

To avoid a 4% U.S federal excise tax on undistributed earnings, the Company is required to distribute each calendar year the sum of (i) 98% of its ordinary income for such calendar year, (ii) 98.2% of its net capital gains for the one-year period ending December 31, (iii) any income recognized, but not distributed, in preceding years and on which the Company paid no federal income tax or the Excise Tax Avoidance Requirement. For this purpose, however, any net ordinary income or capital gain net income retained by us that is subject to corporate income tax for the tax year ending in that calendar year will be considered to have been distributed by year end (or earlier if estimated taxes are paid). The Company, at its discretion, may choose not to distribute all of its taxable income for the calendar year and pay a non-deductible 4% excise tax on this income. If the Company chooses to do so, all other things being equal, this would increase expenses and reduce the amount available to be distributed to stockholders. To the extent that the Company determines that its estimated current year annual taxable income will be in excess of estimated current year dividend distributions from such taxable income, the Company accrues excise taxes on estimated excess taxable income as taxable income is earned. Included in other general and administrative expenses for the nine months ended September 30, 2017 is an additional estimate of $14,985 related to the estimated excise tax. The Company accrued an estimated excise tax of $22,663 as of December 31, 2016 and paid $37,648 in excise taxes during the nine months ending September 30, 2017.

 

The Company evaluates tax positions taken or expected to be taken in the course of preparing its tax returns to determine whether the tax positions are “more-likely-than-not” of being sustained by the applicable tax authority. Tax positions deemed to meet a “more-likely-than-not” threshold would be recorded as a tax benefit or expense in the applicable period.

 

As of September 30, 2017 and December 31, 2016, the Company had not recorded a liability for any unrecognized tax positions. Management’s evaluation of uncertain tax positions may be subject to review and adjustment at a later date based upon factors including, but not limited to, an on-going analysis of tax laws, regulations and interpretations thereof. The Company’s policy is to include interest and penalties related to income taxes, if applicable, in general and administrative expenses. Any expenses for the three and nine months ended September 30, 2017 and 2016, were de minimis.

 

The Taxable Subsidiaries are direct wholly owned subsidiaries of the Company that have elected to be taxable entities. The Taxable Subsidiaries permit the Company to hold equity investments in portfolio companies which are “pass through” entities for tax purposes and continue to comply with the “source income” requirements contained in RIC tax provisions of the Code. The Taxable Subsidiaries are not consolidated with the Company for income tax purposes and may generate income tax expense, benefit, and the related tax assets and liabilities, as a result of their ownership of certain portfolio investments. The income tax expense, or benefit, if any, and related tax assets and liabilities are reflected in the Company’s consolidated financial statements.

 

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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

September 30, 2017

(Unaudited)

 

The Taxable Subsidiaries use the liability method in accounting for income taxes. Deferred tax assets and liabilities are recorded for temporary differences between the tax basis of assets and liabilities and their reported amounts in the financial statements, using statutory tax rates in effect for the year in which the temporary differences are expected to reverse. A valuation allowance is provided against deferred tax assets when it is more likely than not that some portion or all of the deferred tax asset will not be realized.

 

Taxable income generally differs from net income for financial reporting purposes due to temporary and permanent differences in the recognition of income and expenses. Taxable income generally excludes net unrealized appreciation or depreciation, as investment gains or losses are not included in taxable income until they are realized.

 

For the three and nine months ended September 30, 2017, the Company recorded deferred income tax benefit of $0 and $8,593, respectively, related to the Taxable Subsidiaries. For the three and nine months ended September 30, 2016, the Company recorded deferred income tax provision of $39,965 and $362,116, respectively, related to the Taxable Subsidiaries. In addition, as of September 30, 2017 and December 31, 2016, the Company had a deferred tax liability of $0 and $8,593, respectively.

 

Earnings per Share

 

Basic per share calculations are computed utilizing the weighted average number of shares of common stock outstanding for the period. The Company has no common stock equivalents. As a result, there is no difference between diluted earnings per share and basic per share amounts.

 

Paid In Capital

 

The Company records the proceeds from the sale of its common stock on a net basis to (i) capital stock and (ii) paid in capital in excess of par value, excluding all commissions and marketing support fees.

 

Recently Issued Accounting Standards

 

In May 2014, the FASB issued ASU No. 2014-09, Revenue from Contracts with Customers (Topic 606). The guidance in this ASU supersedes the revenue recognition requirements in Revenue Recognition (Topic 605). Under the new guidance, an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. The new guidance will significantly enhance comparability of revenue recognition practices across entities, industries, jurisdictions and capital markets. Additionally, the guidance requires improved disclosures as to the nature, amount, timing and uncertainty or revenue that is recognized. In March 2016, the FASB issued ASU 2016-08, Revenue from Contracts with Customers (Topic 606): Principal versus Agent Considerations (Reporting Revenue Gross versus Net), which clarified the implementation guidance on principal versus agent considerations. In April 2016, the FASB issued ASU 2016-10, Revenue from Contracts with Customers (Topic 606): Identifying Performance Obligations and Licensing, which clarified the implementation guidance regarding performance obligations and licensing arrangements. In May 2016 the FASB issued ASU No. 2016-12, Revenue from Contracts with customers (Topic 606) - Narrow-Scope Improvements and Practical Expedients, which clarified guidance on assessing collectability, presenting sales tax, measuring noncash consideration, and certain transition matters. In December 2016, the FASB issued ASU No. 2016-20, Revenue from Contacts with Customers (Topic 606) – Technical Corrections and Improvements, which provided disclosure relief, and clarified the scope and application of the revenue standard and related cost guidance. The new guidance will be effective for the annual reporting period beginning after December 15, 2017, including interim periods within that reporting period. Note, the guidance exempts interest income from the above guidance, indicating recognition will remain the same. The above guidance will specifically apply to Stellus’ other income streams such as repayment penalty fees, origination fees, miscellaneous fees etc. Stellus has identified similar performance obligations under ASC 606 as compared with deliverables and separate units of account previously identified. As a result, Stellus’ timing of its revenue recognition will remain the same for the identified revenue streams.

 

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STELLUS CAPITAL INVESTMENT CORPORATION

 

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

September 30, 2017

(Unaudited)

 

In August 2014, the FASB issued ASU No. 2014-15 — Disclosure of Uncertainties about an Entity’s Ability to Continue as a Going Concern. In connection with the preparation of interim and annual reports, the Company’s management will evaluate whether conditions or events exist that raise substantial doubt about the entity’s ability to continue as a going concern within one year after the date that the financial statements are issued (or within one year after the date the financial statements are available to be issued, when applicable), and, if so, disclose that fact. Additionally, the Company’s management must evaluate and disclose whether its plans will alleviate that doubt. The guidance was effective for the Company beginning January 1, 2016. The Company has adopted the guidance as of January 1, 2016 and there is no impact on its consolidated financial statements.

 

In November 2015, the FASB issued ASU 2015-17 — Income Taxes (Topic 740): Balance Sheet Classification of Deferred Taxes. ASU 2015-17 requires entities to present deferred tax assets and deferred tax liabilities as noncurrent in a classified balance sheet. It simplifies the current guidance, which required entities to separately present deferred tax assets and liabilities as current or noncurrent in a classified balance sheet. The guidance was effective for the Company January 1, 2017. The Company has adopted the guidance as of January 1, 2017 and there is no material impact on its consolidated financial statements.

 

In August 2016, the FASB issued ASU 2016-15 — Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments. ASU 2016-15 is intended to reduce diversity in practice in how certain transactions are classified in the statement of cash flows. The new guidance addresses the classification of various transactions including debt prepayment or debt extinguishment costs, settlement of zero-coupon debt instruments, contingent consideration payments made after a business combination, distributions received from equity method investments, beneficial interests in securitization transactions, and others. The update is effective for annual periods beginning after December 31, 2017, and interim periods within those annual periods. Early adoption is permitted, including adoption in an interim period. The Company early adopted the guidance as of January 1, 2017 and there is no material impact of this new standard on our consolidated financial statements.

 

From time to time, new accounting pronouncements are issued by the Financial Accounting Standards Board (‘‘FASB’’) or other standards setting bodies that are adopted by the Company as of the specified effective date. We believe the impact of the recently issued standards and any that are not yet effective will not have a material impact on our consolidated financial statements upon adoption.

 

NOTE 2 — RELATED PARTY ARRANGEMENTS

 

Investment Advisory Agreement

 

The Company has entered into an investment advisory agreement with Stellus Capital under which they serve as our investment advisor. Pursuant to this agreement, the Company has agreed to pay to Stellus Capital an annual base management fee of 1.75% of gross assets, including assets purchased with borrowed funds or other forms of leverage and excluding cash and cash equivalents, and an annual incentive fee.

 

For the three and nine months ended September 30, 2017, the Company recorded an expense for base management fees of $1,546,781 and $4,634,318, respectively. For the three and nine months ended September 30, 2016, the Company recorded an expense for base management fees of $1,574,354 and $4,673,568, respectively. As of September 30, 2017 and December 31, 2016, $1,546,781 and $1,608,295, respectively, were payable to Stellus Capital.

 

The incentive fee has two components, investment income and capital gains, as follows:

 

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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

September 30, 2017

(Unaudited)

 

Investment Income Incentive Fee

 

The investment income component (“Investment Income Incentive Fee”) is calculated, and payable, quarterly in arrears based on the Company’s pre-incentive fee net investment income for the immediately preceding calendar quarter, subject to a cumulative total return requirement and to deferral of non-cash amounts. The pre-incentive fee net investment income, which is expressed as a rate of return on the value of the Company’s net assets attributable to the Company’s common stock, for the immediately preceding calendar quarter, will have a 2.0% (which is 8.0% annualized) hurdle rate (also referred to as the “Hurdle”). Pre-incentive fee net investment income means interest income, dividend income and any other income accrued during the calendar quarter, minus the Company’s operating expenses for the quarter excluding the incentive fee. Pre-incentive fee net investment income includes, in the case of investments with a deferred interest feature (such as original issue discount, debt instruments with PIK interest and zero coupon securities), accrued income that the Company has not yet received in cash. The Advisor receives no incentive fee for any calendar quarter in which the Company’s pre-incentive fee net investment income does not exceed the Hurdle. Subject to the cumulative total return requirement described below, the Advisor receives 100% of the Company’s pre-incentive fee net investment income for any calendar quarter with respect to that portion of the pre-incentive net investment income for such quarter, if any, that exceeds the Hurdle but is less than 2.5% (which is 10.0% annualized) of net assets (also referred to as the “Catch-up”) and 20.0% of the Company’s pre-incentive fee net investment income for such calendar quarter, if any, greater than 2.5% (10.0% annualized) of net assets.

 

The foregoing incentive fee is subject to a total return requirement, which provides that no incentive fee in respect of the Company’s pre-incentive fee net investment income is payable except to the extent 20.0% of the cumulative net increase in net assets resulting from operations over the then current and 11 preceding calendar quarters exceeds the cumulative incentive fees accrued and/or paid for the 11 preceding quarters. In other words, any Investment Income Incentive Fee that is payable in a calendar quarter is limited to the lesser of (i) 20% of the amount by which the Company’s pre-incentive fee net investment income for such calendar quarter exceeds the 2.0% hurdle, subject to the Catch-up, and (ii) (x) 20% of the cumulative net increase in net assets resulting from operations for the then current and 11 preceding quarters minus (y) the cumulative incentive fees accrued and/or paid for the 11 preceding calendar quarters. For the foregoing purpose, the “cumulative net increase in net assets resulting from operations” is the amount, if positive, of the sum of pre-incentive fee net investment income, realized gains and losses and unrealized appreciation and depreciation of the Company for the then current and 11 preceding calendar quarters. In addition, the Advisor is not paid the portion of such incentive fee that is attributable to deferred interest until the Company actually receives such interest in cash.

 

For the three and nine months ended September 30, 2017, the Company incurred $462,743 and $2,718,586 respectively, of Investment Income Incentive Fees. For the three and nine months ended September 30, 2016, the Company incurred $1,110,297 and $3,121,395, respectively, of Investment Income Incentive Fees. As of September 30, 2017 and December 31, 2016, $619,617 and $1,353,271, respectively, of such Investment Income Incentive Fees were payable to the Advisor, of which $440,776 and $1,162,714, respectively, were currently payable (as explained below). As of September 30, 2017 and December 31, 2016, $178,841 and $190,557, respectively, of Investment Income Incentive Fees incurred but not paid by the Company were generated from deferred interest (i.e. PIK interest, certain discount accretion and deferred interest) and are not payable until such deferred amounts are received by the Company in cash.

 

Capital Gains Incentive Fee

 

The Company also pays the Advisor an incentive fee based on capital gains (the “Capital Gains Incentive Fee”). The Capital Gains Incentive Fee is determined and payable in arrears as of the end of each calendar year (or upon termination of the investment management agreement, as of the termination date). The Capital Gains Incentive Fee is equal to 20.0% of the Company’s cumulative aggregate realized capital gains from inception through the end of that calendar year, computed net of the cumulative aggregate realized capital losses and cumulative aggregate unrealized capital depreciation through the end of such year. The aggregate amount of any previously paid Capital Gains Incentive Fees is subtracted from such Capital Gains Incentive Fee calculated.

 

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STELLUS CAPITAL INVESTMENT CORPORATION

 

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

September 30, 2017

(Unaudited)

 

U.S. GAAP requires that the incentive fee accrual considers the cumulative aggregate realized gains and losses and unrealized capital appreciation or depreciation of investments or other financial instruments in the calculation, as an incentive fee would be payable if such realized gains and losses and unrealized capital appreciation or depreciation were realized, even though such realized gains and losses and unrealized capital appreciation or depreciation is not permitted to be considered in calculating the fee actually payable under the investment advisory agreement. There can be no assurance that unrealized appreciation or depreciation will be realized in the future. Accordingly, such fees, as calculated and accrued, would not necessarily be payable under the investment advisory agreement, and may never be paid based upon the computation of incentive fees in subsequent periods. For the three and nine months ended September 30, 2017 and 2016, the Company incurred no Capital Gains Incentive Fee. As of September 30, 2017 and December 31, 2016, no Capital Gains Incentive Fees were payable to the Advisor.

 

The following tables summarize the components of the incentive fees discussed above:

 

   Three Months Ended   Nine Months Ended 
   September 30,   September 30, 
   2017   2016   2017   2016 
Investment Income Incentive Fees Incurred  $462,743   $1,110,297   $2,718,586   $3,121,395 
Capital Gains Incentive Fee Incurred                
Incentive Fee Expense  $462,743   $1,110,297   $2,718,586   $3,121,395 

 

   September 30,   December 31, 
   2017   2016 
Investment Income Incentive Fee Currently Payable  $440,776   $1,162,714 
Investment Income Incentive Fee Deferred   178,841    190,557 
Incentive Fee Payable  $619,617   $1,353,271 

 

Director Fees

 

For the three and nine months ended September 30, 2017, the Company recorded an expense relating to director fees of $83,000 and $254,000, respectively. For the three and nine months ended September 30, 2016, the Company recorded an expense relating to director fees of $73,000 and $251,000, respectively. As of September 30, 2017 and December 31, 2016, $83,000 and $0, respectively were payable relating to director fees. 

 

Co-Investments

 

The Company has received exemptive relief from the SEC to co-invest with investment funds managed by Stellus Capital where doing so is consistent with its investment strategy as well as applicable law (including the terms and conditions of the exemptive order issued by the SEC). Under the terms of the relief permitting us to co-invest with other funds managed by Stellus Capital, a “required majority” (as defined in Section 57(o) of the 1940 Act) of the Company’s independent directors must make certain conclusions in connection with a co-investment transaction, including (1) the terms of the proposed transaction, including the consideration to be paid, are reasonable and fair to the Company and its stockholders and do not involve overreaching of the Company or its stockholders on the part of any person concerned and (2) the transaction is consistent with the interests of the Company’s stockholders and is consistent with its investment objectives and strategies. The Company intends to co-invest, subject to the conditions included in the exemptive order the Company received from the SEC, with private credit funds managed by Stellus Capital that have an investment strategy that is identical to the Company’s investment strategy. The Company believes that such co-investments may afford it additional investment opportunities and an ability to achieve greater diversification.

 

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STELLUS CAPITAL INVESTMENT CORPORATION

 

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

September 30, 2017

(Unaudited)

 

Administrative Agent

 

The Company acts as administrative agent for certain loans it originates and then syndicates. As administrative agent, the Company receives interest, principal and/or other payments from borrowers that is redistributed to syndication partners. If not redistributed by the reporting date, such a payable is recorded to syndication partners on the Consolidated Statements of Assets and Liabilities. No such payable exists as of September 30, 2017 and December 31, 2016.

 

License Agreement

 

The Company has entered into a license agreement with Stellus Capital under which Stellus Capital has agreed to grant the Company a non-exclusive, royalty-free license to use the name “Stellus Capital.” Under this agreement, the Company has a right to use the “Stellus Capital” name for so long as Stellus Capital or one of its affiliates remains its investment advisor. Other than with respect to this limited license, the Company has no legal right to the “Stellus Capital” name. This license agreement will remain in effect for so long as the investment advisory agreement with Stellus Capital is in effect.

 

Administration Agreement

 

The Company has entered into an administration agreement with Stellus Capital pursuant to which Stellus Capital will furnish it with office facilities and equipment and will provide it with the clerical, bookkeeping, recordkeeping and other administrative services necessary to conduct day-to-day operations. Under this administration agreement, Stellus Capital will perform, or oversee the performance of, the Company’s required administrative services, which includes, among other things, being responsible for the financial records which the Company is required to maintain and preparing reports to its stockholders and reports filed with the SEC.

 

Included in administrative services expense for the three and nine months ended September 30, 2017, the Company recorded expenses of $277,676 and $837,871, respectively, relating to the administration agreement. Included in administrative services expense for the three and nine months ended September 30, 2016, the Company recorded expenses of $214,453 and $690,361, respectively, relating to the administration agreement. As of September 30, 2017 and December 31, 2016, $277,676 and $232,169, respectively, remained payable to Stellus Capital relating to the administration agreement.

 

Indemnifications

 

The investment advisory agreement provides that, absent willful misfeasance, bad faith or gross negligence in the performance of its duties or by reason of the reckless disregard of its duties and obligations under the investment advisory agreement, Stellus Capital and its officers, managers, partners, agents, employees, controlling persons and members, and any other person or entity affiliated with it, are entitled to indemnification from the Company for any damages, liabilities, costs and expenses (including reasonable attorneys’ fees and amounts reasonably paid in settlement) arising from the rendering of Stellus Capital’s services under the investment advisory agreement or otherwise as our investment adviser.

 

NOTE 3 — DISTRIBUTIONS

 

Monthly distributions are generally declared by the Company’s board of directors each calendar quarter and recognized as distribution liabilities on the ex-dividend date. The Company intends to distribute net realized gains (i.e., net capital gains in excess of net capital losses), if any, at least annually. The stockholder distributions, if any, will be determined by the board of directors. Any distribution to stockholders will be declared out of assets legally available for distribution.

 

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NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

September 30, 2017

(Unaudited)

 

The following table reflects the Company’s distributions declared and paid or to be paid on its common stock since Inception:

 

Date Declared  Record Date  Payment Date  Per Share 
Fiscal 2012           
December 7, 2012  December 21, 2012  December 27, 2012  $0.1812 
Fiscal 2013           
March 7, 2013  March 21, 2013  March 28, 2013  $0.3400 
June 7, 2013  June 21, 2013  June 28, 2013  $0.3400 
August 21, 2013  September 5, 2013  September 27, 2013  $0.3400 
November 22, 2013  December 9, 2013  December 23, 2013  $0.3400 
Fiscal 2014           
December 27, 2013  January 15, 2014  January 24, 2014  $0.0650 
January 20, 2014  January 31, 2014  February 14, 2014  $0.1133 
January 20, 2014  February 28, 2014  March 14, 2014  $0.1133 
January 20, 2014  March 31, 2014  April 15, 2014  $0.1133 
April 17, 2014  April 30, 2014  May 15, 2014  $0.1133 
April 17, 2014  May 30, 2014  June 16, 2014  $0.1133 
April 17, 2014  June 30, 2014  July 15, 2014  $0.1133 
July 7, 2014  July 31, 2014  August 15, 2014  $0.1133 
July 7, 2014  August 29, 2014  September 15, 2014  $0.1133 
July 7, 2014  September 30, 2014  October 15, 2014  $0.1133 
October 15, 2014  October 31, 2014  November 14, 2014  $0.1133 
October 15, 2014  November 28, 2014  December 15, 2014  $0.1133 
October 15, 2014  December 31, 2014  January 15, 2015  $0.1133 
Fiscal 2015           
January 22, 2015  February 2, 2015  February 13, 2015  $0.1133 
January 22, 2015  February 27, 2015  March 13, 2015  $0.1133 
January 22, 2015  March 31, 2015  April 15, 2015  $0.1133 
April 15, 2015  April 30, 2015  May 15, 2015  $0.1133 
April 15, 2015  May 29, 2015  June 15, 2015  $0.1133 
April 15, 2015  June 30, 2015  July 15, 2015  $0.1133 
July 8, 2015  July 31, 2015  August 14, 2015  $0.1133 
July 8, 2015  August 31, 2015  September 15, 2015  $0.1133 
July 8, 2015  September 20, 2015  October 15, 2015  $0.1133 
October 14, 2015  October 30, 2015  November 13, 2015  $0.1133 
October 14, 2015  November 30, 2015  December 15, 2015  $0.1133 
October 14, 2015  December 31, 2015  January 15, 2016  $0.1133 
Fiscal 2016           
January 13, 2016  January 29, 2016  February 15, 2016  $0.1133 
January 13, 2016  February 29, 2016  March 15, 2016  $0.1133 
January 13, 2016  March 31, 2016  April 15, 2016  $0.1133 
April 15, 2016  April 29, 2016  May 13, 2016  $0.1133 
April 15, 2016  May 31, 2016  June 15, 2016  $0.1133 
April 15, 2016  June 30, 2016  July 15, 2016  $0.1133 
July 7, 2016  July 29, 2016  August 15, 2016  $0.1133 
July 7, 2016  August 31, 2016  September 15, 2016  $0.1133 
July 7, 2016  September 30, 2016  October 14, 2016  $0.1133 
October 7, 2016  October 31, 2016  November 15, 2016  $0.1133 

 

 29 

 

  

STELLUS CAPITAL INVESTMENT CORPORATION

 

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

September 30, 2017

(Unaudited)

 

October 7, 2016  November 30, 2016  December 15, 2016  $0.1133 
October 7, 2016  December 30, 2016  January 13, 2017  $0.1133 
Fiscal 2017           
January 13, 2017  January 31, 2017  February 15, 2017  $0.1133 
January 13, 2017  February 28, 2017  March 15, 2017  $0.1133 
January 13, 2017  March 31, 2017  April 14, 2017  $0.1133 
April 14, 2017  April 28, 2017  May 15, 2017  $0.1133 
April 14, 2017  May 31, 2017  June 15, 2017  $0.1133 
April 14, 2017  June 30, 2017  July 14, 2017  $0.1133 
July 7, 2017  July 31, 2017  August 15, 2017  $0.1133 
July 7, 2017  August 31, 2017  September 15, 2017  $0.1133 
July 7, 2017  September 29, 2017  October 13, 2017  $0.1133 
Total        $6.7047 

 

Unless the stockholder elects to receive its distributions in cash, the Company intends to make such distributions in additional shares of the Company’s common stock under the Company’s dividend reinvestment plan. Although distributions paid in the form of additional shares of the Company’s common stock will generally be subject to U.S. federal, state and local taxes in the same manner as cash distributions, investors participating in the Company’s dividend reinvestment plan will not receive any corresponding cash distributions with which to pay any such applicable taxes. Any distributions reinvested through the issuance of shares through the Company’s dividend reinvestment plan will increase the Company’s gross assets on which the base management fee and the incentive fee are determined and paid to Stellus Capital. No new shares were issued in connection with the distributions made during the three and nine months ended September 30, 2017 and 2016.

 

NOTE 4 — EQUITY OFFERINGS AND RELATED EXPENSES

 

The table below illustrates the number of common stock shares the Company issued since inception through various equity offerings.

 

                       Average 
   Number of   Gross   Underwriting   Offering   Net   Offering 
Issuance of Common Stock  Shares   Proceeds   fees   Expenses   Proceeds   Price 
Year ended December 31, 2012   12,035,023   $180,522,093   $4,959,720   $835,500   $174,726,873   $14.90 
Year ended December 31, 2013   63,998    899,964            899,964   $14.06 
Year ended December 31, 2014   380,936    5,485,780    75,510    29,904    5,380,366   $14.47 
Quarter ended June 30, 2017   3,162,500    44,591,250    1,296,625    234,007    43,060,618   $14.10 
Quarter ended September 30, 2017   211,956    2,900,376    43,506    65,954    2,790,917   $13.68 
Total   15,854,413   $234,399,463   $6,375,361   $1,165,365    226,858,738      

 

The Company issued no shares of common stock during the three and nine months ended September 30, 2017 or the year ended December 31, 2016 in connection with the stockholder distribution reinvestment plan.

 

The Company issued 211,956 additional shares of common stock during the quarter ended September 30, 2017 in connection with the ATM program. Gross proceeds resulting from the issuance totaled $2,900,376 and underwriting and other expenses related to the offering totaled $109,460. The average offering price for this capital raise was $13.68.

 

 30 

 

  

STELLUS CAPITAL INVESTMENT CORPORATION

 

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

September 30, 2017

(Unaudited)

 

NOTE 5 — NET INCREASE IN NET ASSETS PER COMMON SHARE

 

The following information sets forth the computation of net increase in net assets resulting from operations per common share for the three and nine ended September 30, 2017 and September 30, 2016.

 

   Three Months Ended   Nine Months Ended 
   September 30,   September 30,   September 30,   September 30, 
   2017   2016   2017   2016 
Net increase in net assets resulting from operations  $5,636,598   $9,927,466   $17,706,116   $17,481,236 
Average common shares   15,668,415    12,479,958    14,510,408    12,479,959 
Basic and diluted earnings per common share  $0.36   $0.80   $1.22   $1.40 

 

NOTE 6 — PORTFOLIO INVESTMENTS AND FAIR VALUE

 

In accordance with the authoritative guidance on fair value measurements and disclosures under U.S. GAAP, the Company discloses the fair value of its investments in a hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1 measurements) and the lowest priority to unobservable inputs (Level 3 measurements). The guidance establishes three levels of the fair value hierarchy as follows:

 

Level 1 — Unadjusted quoted prices in active markets that are accessible at the measurement date for identical, unrestricted assets or liabilities;

 

Level 2 — Quoted prices in markets that are not considered to be active or financial instruments for which significant inputs are observable, either directly or indirectly;

 

Level 3 — Prices or valuations that require inputs that are both significant to the fair value measurement and unobservable.

 

The level of an asset or liability within the fair value hierarchy is based on the lowest level of any input that is significant to the fair value measurement. However, the determination of what constitutes “observable” requires significant judgment by management.

 

The Company considers whether the volume and level of activity for the asset or liability have significantly decreased and identifies transactions that are not orderly in determining fair value. Accordingly, if the Company determines that either the volume and/or level of activity for an asset or liability has significantly decreased (from normal conditions for that asset or liability) or price quotations or observable inputs are not associated with orderly transactions, increased analysis and management judgment will be required to estimate fair value. Valuation techniques such as an income approach might be appropriate to supplement or replace a market approach in those circumstances.

 

At September 30, 2017, the Company had investments in 46 portfolio companies. The composition of our investments as of September 30, 2017 is as follows:

 

   Cost   Fair Value 
Senior Secured – First Lien(a)  $124,444,494   $124,516,371 
Senior Secured – Second Lien   155,172,522    153,522,850 
Unsecured Debt   54,655,431    54,668,386 
Equity   17,977,009    22,590,000 
Total Investments  $352,249,455   $355,297,607 

 

(a) Includes unitranche investments, which account for 14% of our portfolio at fair value.

 

 31 

 

  

STELLUS CAPITAL INVESTMENT CORPORATION

 

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

September 30, 2017

(Unaudited)

 

At December 31, 2016, the Company had investments in 45 portfolio companies. The composition of our investments as of December 31, 2016 was as follows:

 

   Cost   Fair Value 
Senior Secured – First Lien(a)  $113,264,200   $113,482,205 
Senior Secured – Second Lien   163,112,172    162,486,388 
Unsecured Debt   70,919,986    70,725,412 
Equity   14,920,893    18,931,886 
Total Investments  $362,217,251   $365,625,891 

 

 

(a) Includes unitranche investments, which account for 8% of our portfolio at fair value.

 

The Company’s investment portfolio may contain loans that are in the form of lines of credit or revolving credit facilities, which require the Company to provide funding when requested by portfolio companies in accordance with the terms and conditions of the underlying loan agreements. As of September 30, 2017 and December 31, 2016, the Company had four and two such investments, respectively, with aggregate unfunded commitments of $8,186,667 and $1,875,000, respectively.

 

The fair values of our investments disaggregated into the three levels of the fair value hierarchy based upon the lowest level of significant input used in the valuation as of September 30, 2017 are as follows:

  

   Quoted Prices             
   in Active             
   Markets   Significant Other   Significant     
   for Identical   Observable   Unobservable     
   Securities   Inputs   Inputs     
   (Level 1)   (Level 2)   (Level 3)   Total 
Senior Secured – First Lien  $   $   $124,516,371   $124,516,371 
Senior Secured – Second Lien           153,522,850    153,522,850 
Unsecured Debt           54,668,386    54,668,386 
Equity           22,590,000    22,590,000 
Total Investments  $   $   $355,297,607   $355,297,607 
 

 32 

 

  

STELLUS CAPITAL INVESTMENT CORPORATION

 

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

September 30, 2017

(Unaudited)

 

The fair values of our investments disaggregated into the three levels of the fair value hierarchy based upon the lowest level of significant input used in the valuation as of December 31, 2016 are as follows:

 

   Quoted Prices             
   in Active             
   Markets   Significant Other   Significant     
   for Identical   Observable   Unobservable     
   Securities   Inputs   Inputs     
   (Level 1)   (Level 2)   (Level 3)   Total 
Senior Secured – First Lien  $   $   $113,482,205   $113,482,205 
Senior Secured – Second Lien       17,965,000    144,521,388    162,486,388 
Unsecured Debt           70,725,412    70,725,412 
Equity           18,931,886    18,931,886 
Total Investments  $   $17,965,000   $347,660,891   $365,625,891 

 

The aggregate values of Level 3 portfolio investments changed during the nine months ended September 30, 2017 are as follows:

 

      Senior Secured            
   Senior Secured
Loans-First Lien
   Loans-Second
Lien
   Unsecured
Debt
   Equity   Total 
Fair value at beginning of year  $113,482,205   $144,521,388   $70,725,412   $18,931,886   $347,660,891 
Purchases of investments   58,722,750    47,663,500    6,203,400    5,093,444    117,683,094 
Payment-in-kind interest   85,189    207,844    54,449        347,482 
Sales and redemptions   (46,399,381)   (47,725,650)   (22,770,108)   (8,113,361)   (125,008,500)
Transfer from term loan to equity   (864,101)           864,101     
Realized Gain/(Loss)   (626,963)           5,211,927    4,584,964 
Change in unrealized appreciation included in earnings   (146,127)   (1,064,752)   207,537    602,003    (401,339)
Amortization of premium and accretion of discount, net   262,799    370,520    247,696        881,015 
Transfer from Level 2       9,550,000            9,550,000 
Fair value at end of period  $124,516,371   $153,522,850   $54,668,386   $22,590,000   $355,297,607 
Change in unrealized appreciation (depreciation) on Level 3 investments still held as of September 30, 2017  $(518,122)  $(496,622)  $297,028   $1,206,140   $488,424 

 

 33 

 

  

STELLUS CAPITAL INVESTMENT CORPORATION

 

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

September 30, 2017

(Unaudited)

 

The aggregate values of Level 3 portfolio investments changed during the year ended December 31, 2016 are as follows:

 

       Senior Secured            
   Senior Secured
Loans-First Lien
   Loans-Second
Lien
   Unsecured
Debt
   Equity   Total 
Fair value at beginning of year  $131,908,961   $131,972,581   $72,212,282   $12,923,873   $349,017,697 
Purchases of investments   25,009,310    35,664,883    1,354,073    3,632,768    65,661,034 
Payment-in-kind interest   112,952    22,874    107,940        243,766 
Sales and Redemptions   (44,947,647)   (9,850,061)   (122,094)   (1,019,375)   (55,939,177)
Realized Gain/(Loss)   (674,702)       (12,200,353)   (214,286)   (13,089,341)
Change in unrealized depreciation included in earnings   1,653,933    2,684,245    9,085,283    3,608,906    17,032,367 
Amortization of premium and accretion of discount, net   419,398    392,196    288,281        1,099,875 
Transfer from Level 2       (16,365,330)           (16,365,330)
Fair value at end of year  $113,482,205   $144,521,388   $70,725,412   $18,931,886   $347,660,891 
Change in unrealized depreciation on Level 3 investments still held as December 31, 2016  $1,399,408   $2,588,122   $9,084,789   $3,686,972   $16,759,291 

 

During the nine months ended September 30, 2017, there was one sale of a Level 2 investment and a transfer from Level 2 to Level 3, due to a drop in the available broker quotes. During the year ended December 31, 2016, there were two transfers from Level 3 to Level 2 as additional broker quotes became available. Transfers are reflected at the value of the securities at the beginning of the period.

 

 34 

 

  

STELLUS CAPITAL INVESTMENT CORPORATION

 

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

September 30, 2017

(Unaudited)

 

The following is a summary of geographical concentration of our investment portfolio as of September 30, 2017:

 

           % of Total 
   Cost   Fair Value   Investments 
Texas  $96,581,142   $96,375,000    27.13%
New York   41,301,039    41,984,636    11.82%
Canada   26,289,854    26,350,000    7.42%
Illinois   24,215,479    25,160,000    7.08%
California   22,580,901    22,668,648    6.38%
Massachusetts   22,516,768    22,347,850    6.29%
New Jersey   20,812,341    20,829,251    5.86%
Arizona   13,572,134    13,685,429    3.85%
North Carolina   12,838,988    12,910,000    3.63%
Ohio   10,008,032    9,930,000    2.79%
Tennessee   9,842,608    9,900,000    2.79%
Missouri   9,145,337    9,510,000    2.68%
Puerto Rico   8,826,671    6,350,000    1.79%
Pennsylvania   7,841,186    8,058,746    2.27%
Arkansas   7,391,513    7,618,484    2.14%
Georgia   5,927,016    8,110,000    2.28%
Minnesota   5,597,302    5,599,563    1.58%
Washington   4,169,079    4,430,000    1.25%
Utah   1,293,078    1,010,000    0.28%
Alabama   1,206,682    2,000,000    0.56%
Florida   242,304    380,000    0.11%
Virginia   50,001    90,000    0.03%
Grand Total  $352,249,455   $355,297,607    100.0%

 

 35 

 

  

STELLUS CAPITAL INVESTMENT CORPORATION

 

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

September 30, 2017

(Unaudited)

 

The following is a summary of geographical concentration of our investment portfolio as of December 31, 2016:

 

           % of Total 
   Cost   Fair Value   Investments 
Texas  $74,433,626   $73,576,277    20.13%
New York   42,102,392    41,930,666    11.47%
Colorado   27,855,053    28,979,651    7.93%
California   28,298,845    28,606,727    7.82%
Massachusetts   22,467,254    22,944,663    6.28%
Georgia   20,626,735    22,469,217    6.15%
New Jersey   20,710,728    20,804,704    5.69%
Illinois   17,554,821    17,590,281    4.81%
Alabama   16,191,841    16,584,379    4.54%
Missouri   14,096,725    14,441,599    3.95%
Tennessee   12,310,883    12,045,701    3.29%
Arkansas   9,912,815    10,102,283    2.76%
Pennsylvania   8,035,182    8,301,104    2.27%
Puerto Rico   8,712,537    8,229,054    2.25%
Florida   7,453,847    7,431,820    2.03%
Canada   6,765,448    6,692,648    1.83%
Minnesota   6,362,834    6,374,800    1.74%
North Carolina   4,920,321    5,000,000    1.37%
Washington   4,158,696    4,211,990    1.15%
Virginia   4,029,530    4,060,519    1.11%
Arizona   3,408,099    3,410,583    0.93%
Utah   1,291,083    1,311,789    0.36%
Ohio   517,956    525,436    0.14%
   $362,217,251   $365,625,891    100.00%

 

 36 

 

 

STELLUS CAPITAL INVESTMENT CORPORATION

 

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

September 30, 2017

(Unaudited)

 

The following is a summary of industry concentration of our investment portfolio as of September 30, 2017:

 

           % of Total 
   Cost   Fair Value   Investments 
Finance  $45,954,975   $47,680,000    13.42%
Healthcare & Pharmaceuticals   41,937,377    39,469,563    11.11%
Software   36,278,552    36,607,850    10.30%
High Tech Industries   36,027,035    35,320,000    9.94%
Capital Equipment   24,254,964    24,220,000    6.82%
Chemicals, Plastics, & Rubber   20,809,309    21,095,000    5.94%
Retail   18,710,114    18,507,899    5.21%
Construction & Building   17,900,289    17,960,000    5.05%
Services: Consumer   17,893,857    17,990,000    5.06%
Education   17,351,621    17,440,000    4.91%
Consumer Goods: Durable   16,523,848    16,818,484    4.73%
Media: Broadcasting & Subscription   14,416,431    15,804,636    4.45%
Services: Business   9,412,368    11,510,000    3.24%
Automotive   7,841,186    8,058,746    2.27%
Transportation: Cargo   6,780,602    6,840,000    1.93%
Energy: Oil & Gas   6,762,576    6,650,000    1.87%
Insurance   5,406,720    5,500,000    1.55%
Beverage, Food, & Tobacco   3,961,377    3,730,000    1.05%
Hotel, Gaming, & Leisure   3,302,980    3,415,429    0.96%
Environmental Industries   673,273    590,000    0.17%
Services: Government   50,001    90,000    0.03%
   $352,249,455   $355,297,607    100.00%

 

 37 

 

  

STELLUS CAPITAL INVESTMENT CORPORATION

 

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

September 30, 2017

(Unaudited)

 

The following is a summary of industry concentration of our investment portfolio as of December 31, 2016:

 

           % of Total 
   Cost   Fair Value   Investments 
Finance  $56,663,586   $57,504,930    15.73%
Software   36,199,915    36,730,618    10.05%
Media: Broadcasting & Subscription   36,001,876    36,637,803    10.02%
Healthcare & Pharmaceuticals   35,002,051    35,583,505    9.73%
Services: Business   24,105,217    25,884,879    7.08%
Chemicals, Plastics, & Rubber   20,763,612    21,165,542    5.79%
Consumer goods: Durable   18,957,486    19,146,954    5.24%
Retail   18,973,041    19,095,787    5.22%
Education   17,325,046    17,498,701    4.79%
Telecommunications   16,403,791    16,009,390    4.38%
High Tech Industries   16,486,738    15,382,000    4.21%
Consumer Goods: non-durable   12,437,795    12,700,000    3.47%
Beverage, Food, & Tobacco   11,881,630    11,991,250    3.28%
Automotive   8,035,182    8,301,104    2.27%
Services: Consumer   8,453,847    8,153,879    2.23%
Transportation: Cargo   6,765,448    6,692,648    1.83%
Energy: Oil & Gas   7,320,058    6,654,662    1.82%
Services: Government   4,029,530    4,060,519    1.11%
Hotel, Gaming, & Leisure   3,408,099    3,410,583    0.93%
Construction & Building   2,485,347    2,495,701    0.68%
Environmental Industries   517,956    525,436    0.14%
   $362,217,251    365,625,891    100.00%

 

The following provides quantitative information about Level 3 fair value measurements as of September 30, 2017:

 

Description:   Fair Value     Valuation Technique   Unobservable Inputs   Range (Average) (1) (3)
                HY credit spreads,   -3.56% to 5.95% (-0.80%)
            Income/Market   Risk free rates   -0.02% to 0.85% (0.35%)
First lien debt   $ 124,516,371     approach (2)   Market multiples   5x to 19x (11x)(4)
                     
                HY credit spreads,   -2.35% to 5.20% (-0.33)
            Income/Market   Risk free rates   -0.57% to 0.76% (0.11%)
Second lien debt   $ 153,522,850     approach (2)   Market multiples   7x to 31x (12x)(4)
                     
                HY credit spreads,   -1.22% to 4.36% (0.24%)
            Income/Market   Risk free rates   -0.08% to 0.93% (0.21%)
Unsecured debt   $ 54,668,386     approach (2)   Market multiples   5x to 13x (12.5x)(4)
                     
                Underwriting multiple/    
Equity investments   $ 22,590,000     Market approach (5)   EBITDA Multiple   1x to 13x (9x)
                     
Total Long Term Level 3 Investments   $ 355,297,607              

 

(1)Weighted average based on fair value as of September 30, 2017.

 

(2)Inclusive of but not limited to (a) the market approach which is used to determine sufficient enterprise value, and (b) the income approach which is based on discounting future cash flows using an appropriate market yield.

 

 38 

 

  

STELLUS CAPITAL INVESTMENT CORPORATION

 

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

September 30, 2017

(Unaudited)

 

(3)The Company estimates fair value of the loan by discounting future cash flows, which include forecasted future LIBOR rates based on the published forward LIBOR curve at the valuation date, using an appropriate yield calculated as of the valuation date. This yield is calculated based on the loan’s yield at the original investment and is adjusted as of the valuation date based on: changes in comparable credit spreads, changes in risk free interest rates (per swap rates), and changes in credit quality (via an estimated shadow rating). Significant movements in any of these factors could result in a significantly lower or higher fair value measurement. As an example, the “Range (Average)” for second lien debt instruments in the table above indicates that the change in the HY spreads between the date a loan closed and the valuation date ranged from -2.35% (-235 basis points) to 5.20% (520 basis points). The average of all changes was -0.33% (-33 basis points).

 

(4)Median of LTM (last twelve months) EBITDA multiples of comparable companies.

 

(5)The primary significant unobservable input used in the fair value measurement of the Company’s equity investments is the EBITDA multiple (the “Multiple”). Significant increases (decreases) in the Multiple in isolation could result in a significantly higher (lower) fair value measurement. To determine the Multiple for the market approach, the Company considers current market trading and/or transaction multiple, portfolio company performance (financial ratios) relative to public and private peer companies and leverage levels, among other factors. Changes in one or more of these factors can have a similar directional change on other factors in determining the appropriate Multiple to use in the market approach.

 

The following provides quantitative information about Level 3 fair value measurements as of December 31, 2016:

 

Description:   Fair Value     Valuation Technique   Unobservable Inputs   Range (Average) (1) (3)
                HY credit spreads,   -2.01% to 0.69% (-0.66%)
            Income/Market   Risk free rates   -0.21% to 0.83% (0.16%)
First lien debt   $ 113,482,205     approach (2)   Market multiples   7x to 14x (10x)(4)
                     
                HY credit spreads,   -7.34% to 6.67% (0.00%)
            Income/Market   Risk free rates   -0.60% to 0.79% (0.00%)
Second lien debt   $ 144,521,388     approach (2)   Market multiples   5x to 19x (11x)(4)
                     
                HY credit spreads,   -0.91% to 0.03% (-0.36%)
            Income/Market   Risk free rates   -0.36% to 0.95% (0.10%)
Unsecured debt   $ 70,725,412     approach (2)   Market multiples   7x to 13x (10x)(4)
                     
                Underwriting multiple/    
Equity investments   $ 18,931,886     Market approach (5)   EBITDA Multiple   1x to 13x (9x)
Total Long Term Level 3 Investments   $ 347,660,891              

 

(1)Weighted average based on fair value as of December 31, 2016.

 

(2)Inclusive of not limited to (a) the market approach which is used to determine sufficient enterprise value, and (b) the income approach which is based on discounting future cash flows using an appropriate market yield.

 

(3)The Company estimates fair value of the loan by discounting future cash flows, which include forecasted future LIBOR rates based on the published forward LIBOR curve at the valuation date, using an appropriate yield calculated as of the valuation date. This yield is calculated based on the loan’s yield at the original investment and is adjusted as of the valuation date based on: changes in comparable credit, changes in risk free interest rates (per swap rates), and changes in credit quality (via an estimated shadow rating). Significant movements in any of these factors could result in a significantly lower or higher fair value measurement. As an example, the “Range (Average)” for first lien debt instruments in the table above indicates that the change in the HY spreads between the date a loan closed and the valuation date ranged from -2.01% (201 basis points) to 0.69% (69 basis points). The average of all changes was -0.66% (-66 basis points).

 

(4)Median of LTM (last twelve months) EBITDA multiples of comparable companies.

 

 39 

 

  

STELLUS CAPITAL INVESTMENT CORPORATION

 

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

September 30, 2017

(Unaudited)

 

(5)The primary significant unobservable input used in the fair value measurement of the Company’s equity investments is the EBITDA multiple (the “Multiple”). Significant increases (decreases) in the Multiple in isolation could result in a significantly higher (lower) fair value measurement. To determine the Multiple for the market approach, the Company considers current market trading and/or transaction multiple, portfolio company performance (financial ratios) relative to public and private peer companies and leverage levels, among other factors. Changes in one or more of these factors can have a similar directional change on other factors in determining the appropriate Multiple to use in the market approach.

 

NOTE 7 — COMMITMENTS AND CONTINGENCIES

 

The Company is currently not subject to any material legal proceedings, nor, to our knowledge, is any material legal proceeding threatened against us. From time to time, we may be a party to certain legal proceedings in the ordinary course of business, including proceedings relating to the enforcement of our rights under contracts with our portfolio companies. While the outcome of these legal proceedings cannot be predicted with certainty, we do not expect that these proceedings will have a material effect upon our business, financial condition or results of operations.

 

As of September 30, 2017 and December 31, 2016, the Company had unfunded commitments of $8,186,667 and $1,875,000, respectively, to provide debt financing for four and two portfolio companies, respectively. The Company maintains sufficient liquidity to fund such unfunded loan commitments (through cash on hand and available borrowings under its Credit Facility as defined in Note 9, below) should the need arise.

 

NOTE 8 — FINANCIAL HIGHLIGHTS

 

   For the   For the 
   nine months   nine months 
   ended   ended 
   September 30, 2017   September 30, 2016 
   (unaudited)   (unaudited) 
Per Share Data: (1)          
Net asset value at beginning of period  $13.69   $13.19 
Net investment income   0.93    1.01 
Net change in unrealized appreciation (depreciation) on investments and cash equivalents   (0.02)   0.43 
Net realized gain/(loss) on investments and cash equivalents   0.31    (0.07)
Benefit for taxes on investments at taxable subsidaries       0.03 
Total from investment operations  $1.22   $1.40 
Offering Costs   (0.02)     
Stockholder distributions from:          
Net investment income   (1.02)   (1.02)
Other (7)   (0.02)    
Net asset value at end of period  $13.85   $13.57 
           
Per share market value at end of period  $13.65   $10.89 
Total return based on market value (2)   21.82%   25.02%
Weighted average shares outstanding   14,510,408    12,479,959 

 

 40 

 

  

STELLUS CAPITAL INVESTMENT CORPORATION

 

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

September 30, 2017

(Unaudited)

 

   For the   For the 
   nine months   nine months 
   ended   ended 
   September 30, 2017   September 30, 2016 
   (unaudited)   (unaudited) 
Ratio/Supplemental Data:          
Net assets at end of period  $219,536,042   $169,406,036 
Weighted Average net assets  $187,011,680   $163,788,591 
Annualized ratio of gross operating expenses to net assets (3) (6)   11.71%   13.52%
Annualized ratio of interest expense and other fees to net assets (3)   4.21%   4.87%
Annualized ratio of net investment income to net assets (3) (6)    9.70%   10.56%
Portfolio Turnover (4)   33.38%   10.00%
Notes payable  $48,875,000   $25,000,000 
Credit Facility payable  $36,000,000   $107,500,000 
SBA Debentures  $65,000,000   $65,000,000 
Asset coverage ratio (5)   3.59 x    2.28 x 

 

(1)Financial highlights are based on weighted average shares outstanding as of period end.

 

(2)Total return on market value is based on the change in market price per share since the end of the prior year and assumes enrollment in the Company’s dividend reinvestment plan. The total returns are not annualized.

 

(3)Financial highlights for periods of less than one year are annualized, with exception of the provision for taxes on the unrealized gain on investments.

 

(4)Calculated as the lesser of purchases or sales divided by average portfolio balance and is not annualized.

 

(5)Asset coverage ratio is equal to (i) the sum of (a) net assets at the end of the period and (b) total debt outstanding at the end of the period, divided by (ii) total debt outstanding at the end of the period. SBA debentures are excluded from the numerator and denominator.

 

(6)These ratios include the impact of the benefit for income taxes related to unrealized loss on investments of $8,593 for the nine months ended September 30, 2017 and a benefit for income taxes related to unrealized gain on investments of $362,116 for the nine months ended September 30, 2016, which are not reflected in net investment income, gross operating expenses or net operating expenses. The provision for income taxes related to unrealized gain or loss on investments to net assets for the nine months ended September 30, 2017 and 2016 is less than 0.01% and 0.10%, respectively.

 

(7)Includes the impact of different share amounts as a result of calculating certain per share data based on weighted average shares outstanding during the period and certain per share data based on shares outstanding as of the period end.

 

NOTE 9 — CREDIT FACILITY

 

On November 7, 2012, the Company entered into a revolving credit facility (the “Credit Facility”) with various lenders. SunTrust Bank, one of the lenders, serves as administrative agent under the Credit Facility. The Credit Facility, as amended on November 21, 2014 and August 31, 2016, provides for borrowings in an aggregate amount of $120,000,000 on a committed basis with an accordion feature that allows the Company to increase the aggregate commitments up to $195,000,000, subject to new or existing lenders agreeing to participate in the increase and other customary conditions. There can be no assurances that existing lenders will agree to such an increase, or that additional lenders will join the Credit Facility to increase available borrowings.

 

 41 

 

  

STELLUS CAPITAL INVESTMENT CORPORATION

 

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

September 30, 2017

(Unaudited)

 

Borrowings under the Credit Facility bear interest, subject to the Company’s election, on a per annum basis equal to (i) LIBOR plus 2.625% with no LIBOR floor or (ii) 1.625% plus an alternate base rate based on the highest of the Prime Rate, Federal Funds Rate plus 0.5% or one month LIBOR plus 1.0%. The Company pays unused commitment fees of 0.50% per annum on the unused lender commitments under the Credit Facility. Interest is payable quarterly in arrears. Any amounts borrowed under the Credit Facility will mature, and all accrued and unpaid interest thereunder will be due and payable, on October 1, 2018.

 

The Company’s obligations to the lenders are secured by a first priority security interest in its portfolio of securities and cash not held at the SBIC subsidiary, but excluding short term investments. The Credit Facility contains certain affirmative and negative covenants, including but not limited to: (i) maintaining a minimum liquidity test of at least 85% of adjusted borrowing base, (ii) maintaining an asset coverage ratio of at least 2.0 to 1.0, and (iii) maintaining a minimum shareholder’s equity. As of September 30, 2017, the Company was in compliance with these covenants. Additionally, the Credit Facility requires that the Company meet certain conditions in connection with incurring additional indebtedness under the Credit Facility, including that the Company have a minimum asset coverage ratio of 2.20 to 1.0 immediately after giving effect to such borrowing. As of September 30, 2017, the Company’s asset coverage ratio was 3.59 to 1.0.

 

As of September 30, 2017 and December 31, 2016, the outstanding balance under the Credit Facility was $36,000,000 and $116,000,000, respectively. The carrying amount of the amount outstanding under the Credit Facility approximates its fair value. The Company incurred total costs of $3,117,716 in connection with obtaining, amending, and maintaining the Credit Facility, which are being amortized over the life of the Credit Facility. As of September 30, 2017 and December 31, 2016, $455,972 and $828,792 of such prepaid loan structure fees and administration fees had yet to be amortized, respectively. These prepaid loan fees are presented on our consolidated statement of assets and liabilities as a deduction from the debt liability attributable to the Credit Facility as required by ASU No. 2015-3. See Note 1 to the consolidated financial statements for further discussion and Note 11 for significant developments subsequent to September 30, 2017 regarding the Credit Facility.

 

The following is a summary of the Credit Facility, net of prepaid loan structure fees:

 

   September 30,   December 31, 
   2017   2016 
Credit Facility payable  $36,000,000   $116,000,000 
Prepaid loan structure fees   455,972    828,792 
Credit facility payable, net of prepaid loan structure fees  $35,544,028   $115,171,208 

 

 42 

 

  

STELLUS CAPITAL INVESTMENT CORPORATION

 

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

September 30, 2017

(Unaudited)

 

For the three months ended September 30, 2017, the weighted average effective interest rate under the Credit Facility was approximately 4.1% (approximately 5.9% including commitment fees and other loan fees). The average borrowings under the Credit Facility for the three months ended September 30, 2017 were $47,342,391.

 

For the nine months ended September 30, 2017, the weighted average effective interest rate under the Credit Facility was approximately 3.7% (approximately 4.7% including commitment fees and other loan fees). The average borrowings under the Credit Facility for the nine months ended September 30, 2017 were $70,035,714.

 

For the three months ended September 30, 2016, the weighted average effective interest rate under the Credit Facility was approximately 3.2% (approximately 3.7% including commitment and other loan fees). The average borrowings under the Credit Facility for the three months ended September 30, 2016 were $105,168,478.

 

For the nine months ended September 30, 2016, the weighted average effective interest rate under the Credit Facility was approximately 3.1% (approximately 3.7% including commitment and other loan fees). The average borrowings under the Credit Facility for the nine months ended September 30, 2016 were $107,087,591.

 

Interest is paid quarterly in arrears. The following table summarizes the interest expense and amortized loan fees on the Credit Facility for the three and nine months ended September 30, 2017 and 2016:

 

   For the three months ended   For the nine months ended 
   September 30,   September 30,   September 30,   September 30, 
   2017   2016   2017   2016 
Interest expense  $487,452   $841,622   $1,924,183   $2,517,807 
Loan fee amortization   113,071    119,322    335,525    355,372 
Commitment fees on unused portion   92,840    18,771    189,448    49,105 
Administration fees   12,568    12,534    37,295    37,330 
Total interest and financing expenses  $705,931   $992,249   $2,486,451   $2,959,614 
                     
Cash paid for interest and unused fees  $369,215   $860,459   $1,988,222   $2,596,512 

 

NOTE 10 — NOTES

 

On May 5, 2014, the Company closed a public offering of $25,000,000 in aggregate principal amount of 6.50% notes (the “2019 Notes”) due April 30, 2019. On August 21, 2017, the Company caused notices to be issued to the holders of its 2019 Notes regarding the Company’s exercise of its option to redeem all of the issued and outstanding 2019 Notes, pursuant to Section 1101 of the Base Indenture dated as of May 5, 2014, between the Company and U.S. Bank National Association, as trustee, and Section 1.01(h)(i) of the First Supplemental Indenture dated as of May 5, 2014. The Company redeemed all $25.0 million in aggregate principal amount of the 2019 Notes on September 20, 2017. The 2019 Notes were redeemed at 100% of their principal amount, plus the accrued and unpaid interest thereon through the redemption date. As a result of the redemption, the Company recognized a loss on the extinguishment of debt of $302,732 for the three and nine months ended September 30, 2017, due to the write off of the remaining deferred financing costs on the 2019 Notes.

 

The following table summarizes the interest expense and deferred financing costs on the 2019 Notes for the three and nine months ended September 30, 2017 and 2016:

 

 43 

 

  

STELLUS CAPITAL INVESTMENT CORPORATION

 

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

September 30, 2017

(Unaudited)

 

   For the three months ended   For the nine months ended 
   September 30,   September 30,   September 30,   September 30, 
   2017   2016   2017   2016 
Interest expense  $356,597   $406,250   $1,169,097   $1,218,750 
Deferred financing costs   40,753    47,107    131,131    138,486 
Administration fees   1,768    1,260    5,246    3,590 
Total interest and other fees  $399,118   $454,617   $1,305,474   $1,360,826 
Loss on extinguishment of debt   302,732        302,732     
                     
Cash paid for interest  $564,236   $406,250   $1,376,736   $1,218,750 

 

On August 21, 2017, the Company issued $42.5 million in aggregate principal amount of 5.75% fixed-rate notes due 2022 (the “2022 Notes” and together with the 2019 Notes, the “Notes”). On September 8, 2017, the Company issued an additional $6.38 million in aggregate principal amount of the 2022 Notes pursuant to a full exercise of the underwriters’ overallotment option. The 2022 Notes will mature on September 15, 2022, 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 September 15, 2019 at a redemption price equal to 100% of the outstanding principal, plus accrued and unpaid interest. Interest is payable quarterly beginning December 15, 2017.

 

The Company used all of the net proceeds from this offering to fully redeem the 2019 Notes and a portion of the outstanding amount under the Credit Facility. As of September 30, 2017 and December 31, 2016, the aggregate carrying amount of the 2022 Notes was approximately $48.88 million and $25.0 million for the 2019 Notes, the fair value of the Notes was approximately $49.7 and $25.2 million, respectively. The 2022 Notes are listed on New York Stock Exchange under the trading symbol “SCA”. The fair value of the Notes is based on the closing price of the security, which is a Level 2 input under ASC 820 due to sufficient trading volume.

 

In connection with the issuance and maintenance of the 2022 Notes, we have incurred $1,688,961 of fees which are being amortized over the term of the 2022 Notes, of which $1,654,575 remains to be amortized as of September 30, 2017. These financing costs are presented on the consolidated statement of assets and liabilities as a deduction from the debt liability as required by ASU No. 2015-3.

 

The following table summarizes the interest expense and deferred financing costs on the 2022 Notes for the three and nine months ended September 30, 2017 and 2016:

 

   For the three months ended   For the nine months ended 
   September 30,   September 30,   September 30,   September 30, 
   2017   2016   2017   2016 
Interest expense  $312,257   $   $312,257   $ 
Deferred financing costs   33,462        33,462     
Administration fees   924        924     
Total interest and other fees  $346,643   $   $346,643   $ 
                     
Cash paid for interest  $   $   $   $ 

 

The following is a summary of the Notes Payable, net of deferred financing costs:

 

 44 

 

  

STELLUS CAPITAL INVESTMENT CORPORATION

 

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

September 30, 2017

(Unaudited)

 

   September 30,   December 31, 
   2017   2016 
Notes payable  $48,875,000   $25,000,000 
Deferred financing costs   1,654,575    434,109 
Notes payable, net of deferred financing costs  $47,220,425   $24,565,891 

 

The indenture and supplements thereto relating to each of the 2019 Notes and 2022 Notes contain certain covenants, including but not limited to (i) a requirement that the Company comply with the asset coverage requirements of the 1940 Act or any successor provisions, and (ii) a requirement to provide financial information to the holders of the notes and the trustee under the indenture if the Company should no longer be subject to the reporting requirements under the Exchange Act.

 

NOTE 11 — SBA DEBENTURES

 

 Due to the SBIC subsidiary’s status as a licensed SBIC, we have the ability to issue debentures guaranteed by the SBA at favorable interest rates. Under the regulations applicable to SBIC funds, an SBIC can have outstanding debentures guaranteed by the SBA subject to a regulatory leverage limit, up to two times the amount of regulatory capital. As of September 30, 2017 and December 31, 2016, the SBIC subsidiary had $58,500,000 and $38,000,000 in regulatory capital, respectively, as such term is defined by the SBA.

 

As a BDC, we are only allowed to employ leverage to the extent that our asset coverage, as defined in the 1940 Act, equals at least 200% after giving effect to such leverage. The amount of leverage that we employ at any time depends on our assessment of the market and other factors at the time of any proposed borrowing.

 

On August 12, 2014, we obtained exemptive relief from the SEC to permit us to exclude the debt of the SBIC subsidiary guaranteed by the SBA from our 200% asset coverage test under the 1940 Act. The exemptive relief provides us with increased flexibility under the 200% asset coverage test by permitting us to borrow up to $65,000,000 more than we would otherwise be able to absent the receipt of this exemptive relief.

 

On a stand-alone basis, the SBIC subsidiary held $125,966,711 and $104,622,663 in assets at September 30, 2017 and December 31, 2016, respectively, which accounted for approximately 32.9% and 27.5% of our total consolidated assets at September 30, 2017 and December 31, 2016, respectively.

 

Debentures guaranteed by the SBA have fixed interest rates that equal prevailing 10-year Treasury Note rates plus a market spread and have a maturity of ten years with interest payable semi-annually. The principal amount of the debentures is not required to be paid before maturity, but may be pre-paid at any time with no prepayment penalty. As of both September 30, 2017 and December 31, 2016, the SBIC subsidiary had $65,000,000 of the SBA Debentures outstanding, which mature ten years from issuance. The first maturity related to the SBA Debentures does not occur until 2025, and the remaining weighted average duration of all of our outstanding SBA Debentures is approximately 8.1 years as of September 30, 2017.

 

As of September 30, 2017 and December 31, 2016, the carrying amount of the SBA Debentures approximated their fair value. The fair values of the SBA Debentures are determined in accordance with ASC 820, which defines fair value in terms of the price that would be paid to transfer a liability in an orderly transaction between market participants at the measurement date under current market conditions. The fair value of the SBA Debentures are estimated based upon market interest rates for our own borrowings or entities with similar credit risk, adjusted for nonperformance risk, if any. At September 30, 2017 and December 31, 2016 the SBA Debentures would be deemed to be Level 3, as defined in Note 6.

 

As of September 30, 2017, the Company has incurred $2,226,250 in financing costs related to the SBA Debentures. As of September 30, 2017 and December 31, 2016, $1,414,658 and $1,657,964 of prepaid financing costs had yet to be amortized, respectively. These prepaid loan fees are presented on the consolidated statement of assets and liabilities as a deduction from the debt liability as required by ASU No. 2015-3. See Note 1 for further discussion.

 

 45 

 

  

STELLUS CAPITAL INVESTMENT CORPORATION

 

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

September 30, 2017

(Unaudited)

 

The following is a summary of the SBA Debentures, net of prepaid loan fees:

 

   September 30,   December 31, 
   2017   2016 
SBA debentures payable  $65,000,000   $65,000,000 
Prepaid loan fees   1,414,658    1,657,964 
SBA Debentures, net of prepaid loan fees  $63,585,342   $63,342,036 

 

For the three and nine months ended September 30, 2017, the weighted average effective interest rate for the SBA Debentures was approximately 3.1% (approximately 3.6% including loan fees The average borrowings of SBA Debentures for the three and nine months ended September 30, 2017 were $65,000,000.

 

For the three months ended September 30, 2016, the weighted average effective interest rate for the SBA Debentures was approximately 3.1% (approximately 3.6% including loan fees). The average borrowings of SBA Debentures for the three months ended September 30, 2016 were $65,000,000.

 

For the nine months ended September 30, 2016, the weighted average effective interest rate for the SBA Debentures was approximately 2.8% (approximately 3.3% including loan fees). The average borrowings of SBA Debentures for the nine months ended September 30, 2016 were $65,000,000.

 

Interest is paid semi-annually, in March and September. The following table summarizes the interest expense and amortized fees on the Debentures for the three and nine months ended September 30, 2017 and 2016:

 

   For the three months ended   For the nine months ended 
   September 30,   September 30,   September 30,   September 30, 
   2017   2016   2017   2016 
Interest expense  $508,923   $508,923   $1,510,172   $1,368,176 
Debenture fee amortization   81,993    81,993    243,306    244,197 
Total interest and other fees  $590,916   $590,916   $1,753,478   $1,612,373 
                     
Cash paid for interest  $1,017,845   $942,988   $2,019,095   $1,500,527 

 

NOTE 12 — SUBSEQUENT EVENTS

 

Investment Portfolio

 

Portfolio Activity

 

On October 16, 2017 the Company invested $12.5 million in the second lien term loan of Magdata Intermediate Holdings, LLC (also referred to as Magnitude Software), a provider of enterprise information management software and related services to fortune 1000 companies.

 

On October 20, 2017 the Company received full repayment on the unsecured term loans of Colford Capital Holdings, LLC for total proceeds of $19.5 million.

 

On October 27, 2017 the Company invested $13.75 million in the second lien term loan of Condor Borrow, LLC, (also referred to as Comodo) a market leading provider or secure socket layer (“SSL”) certificates. Additionally, the Company invested $0.5 million in the equity of the company.

 

 46 

 

 

STELLUS CAPITAL INVESTMENT CORPORATION

 

NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS

September 30, 2017

(Unaudited)

 

Credit Facility

 

On October 11, 2017, the Company entered into a $140 million revolving credit facility with Amegy Bank, who replaced SunTrust Bank as agent, and admitted several new banks and extended the maturity to October 10, 2021. This facility is effective as of October 10, 2017 and is materially the same as the previous facility with the following exceptions: (a) the interest rate was reduced from LIBOR +2.625% to LIBOR +2.50%; (b) the asset coverage test was reduced from 220% to 200%; and (c) an interest coverage test of 2:1 was added. The Company incurred upfront costs of approximately $1.1 million which were deferred and will be amortized over the four year term of the facility. Subsequent to entering the new agreement with Amegy Bank, our credit facility with SunTrust Bank was terminated. On October 11, 2017, in conjunction with securing and entering into the new Credit Agreement, the Company terminated its senior secured revolving credit facility with SunTrust Bank, as administrative agent and a lender, and the other lenders party thereto.

 

On November 1, 2017, we entered into a custody agreement with our new custodian, ZB, A National Association, DBA Amegy Bank. On November 2, 2017, the Company provided notice of termination of its custody agreement dated as of November 1, 2012, between the Company and State Street (the “State Street Agreement”) effective within 60 days.

 

The outstanding balance under the Credit Facility as of November 8, 2017 was $38.5 million.

 

ATM Program

 

Since September 30, 2017, we issued 91,446 shares under the ATM program for net proceeds of $1.2 million (net of sales load) at an average price of $13.68 ($13.47 per share, net).

 

SBIC Subsidiary

 

On November 8, 2017 the SBA granted the Company’s SBIC Subsidiary a commitment of $25.0 million of additional debentures.

 

Dividend Declared

 

On October 12, 2017, the Company’s board of directors declared a regular monthly dividend for each of October 2017, November 2017 and December 2017 as follows:

 

Declared  Ex-Dividend Date  Record Date  Payment Date  Amount per Share 
10/12/2017  10/30/2017  10/31/2017  11/15/2017  $0.1133 
10/12/2017  11/29/2017  11/30/2017  12/15/2017  $0.1133 
10/12/2017  12/28/2017  12/29/2017  1/12/2018  $0.1133 

 

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Item 2.Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

Forward-Looking Statements

 

Some of the statements in this quarterly report on Form 10-Q constitute forward-looking statements, which relate to future events or our future performance or financial condition. The forward-looking statements contained in this quarterly report on Form 10-Q involve risks and uncertainties, including statements as to:

 

our future operating results;

 

our business prospects and the prospects of our portfolio companies;

 

the effect of investments that we expect to make;

 

our contractual arrangements and relationships with third parties;

 

actual and potential conflicts of interest with Stellus Capital Management;

 

the dependence of our future success on the general economy and its effect on the industries in which we invest;

 

the ability of our portfolio companies to achieve their objectives;

 

the use of borrowed money to finance a portion of our investments;

 

the adequacy of our financing sources and working capital;

 

the timing of cash flows, if any, from the operations of our portfolio companies;

 

the ability of Stellus Capital Management to locate suitable investments for us and to monitor and administer our investments;

 

the ability of Stellus Capital Management to attract and retain highly talented professionals;

 

our ability to maintain our qualification as a regulated investment company, or RIC, under Subchapter M of the Internal Revenue Code of 1986, or the Code, and as a BDC under the Investment Company Act of 1940, as amended, or the 1940 Act, and

 

the effect of future changes in laws or regulations (including the interpretation of these laws and regulations by regulatory authorities) and conditions in our operating areas, particularly with respect to BDCs or RICs.

 

Such forward-looking statements may include statements preceded by, followed by or that otherwise include the words “may,” “might,” “will,” “intend,” “should,” “could,” “can,” “would,” “expect,” “believe,” “estimate,” “anticipate,” “predict,” “potential,” “plan” or similar words.

 

We have based the forward-looking statements included in this quarterly report on Form 10-Q on information available to us on the date of this quarterly report on Form 10-Q. Actual results could differ materially from those anticipated in our forward-looking statements, and future results could differ materially from historical performance. We undertake no obligation to revise or update any forward-looking statements, whether as a result of new information, future events or otherwise, unless required by law or rules or regulations of the Securities and Exchange Commission (the “SEC”). You are advised to consult any additional disclosures that we may make directly to you or through reports that we in the future may file with the SEC, including annual reports on Form 10-K, quarterly reports on Form 10-Q and current reports on Form 8-K.

 

Overview

 

We were organized as a Maryland corporation on May 18, 2012, and formally commenced operations on November 7, 2012. Our investment objective is to maximize the total return to our stockholders in the form of current income and capital appreciation through debt and related equity investments in middle-market companies.

 

We are an externally managed, non-diversified, closed-end investment management company that has elected to be regulated as a business development company (“BDC”) under the 1940 Act. The Company’s investment activities are managed by its investment advisor, Stellus Capital Management, LLC (“Stellus Capital” or the “Advisor”). As a BDC, we are required to comply with certain regulatory requirements.

 

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For instance, as a BDC, we may not acquire any assets other than “qualifying assets” specified in the 1940 Act unless, at the time the acquisition is made, at least 70% of our total assets are qualifying assets. Qualifying assets include investments in “eligible portfolio companies.” Under the relevant SEC rules, the term “eligible portfolio company” includes private operating companies, operating companies whose securities are not listed on a national securities exchange, and certain public operating companies that have listed their securities on a national securities exchange and have a market capitalization of less than $250 million, in each case organized and with their principal of business in the United States.

 

We have elected to be treated for U.S. federal tax purposes as a RIC under Subchapter M of the Code. To maintain our qualification as a RIC, we must, among other things, meet certain source-of-income and asset diversification requirements. As of September 30, 2017, we were in compliance with the RIC requirements. As a RIC, we generally will not have to pay corporate-level U.S. federal income taxes on any income we distribute to our stockholders.

 

Portfolio Composition and Investment Activity

 

Portfolio Composition

 

We originate and invest primarily in privately-held middle-market companies (typically those with $5.0 million to $50.0 million of EBITDA (earnings before interest, taxes, depreciation and amortization)) through first lien, second lien, unitranche and mezzanine debt financing, with a corresponding equity investment.

 

The Company classifies its portfolio investments in accordance with the requirements of the 1940 Act as follows: (a) “Control Investments” are defined as investments in which the Company owns more than 25% of the voting securities or has rights to maintain greater than 50% of the board representation, (b) “Affiliate Investments” are defined as investments in which the Company owns between 5% and 25% of the voting securities and does not have rights to maintain greater than 50% of the board representation, and (c) “Non-controlled, non-affiliate investments” are defined as investments that are neither Control Investments or Affiliate Investments.

 

As of September 30, 2017, we had $355.3 million (at fair value) invested in 46 portfolio companies. As of September 30, 2017, our portfolio included approximately 35% of first lien debt, 43% of second lien debt, 16% of mezzanine debt and 6% of equity investments at fair value. The composition of our investments at cost and fair value as of September 30, 2017 was as follows:

 

   Cost   Fair Value 
Senior Secured – First Lien(a)  $124,444,494   $124,516,371 
Senior Secured – Second Lien   155,172,522    153,522,850 
Unsecured Debt   54,655,431    54,668,386 
Equity   17,977,009    22,590,000 
Total Investments  $352,249,455   $355,297,607 

 

(a) Includes unitranche investments, which account for 14% of our portfolio at fair value.

 

As of December 31, 2016, we had $365.6 million (at fair value) invested in 45 portfolio companies. As of December 31, 2016, our portfolio included approximately 31% of first lien debt, 45% of second lien debt, 19% of mezzanine debt and 5% of equity investments at fair value. The composition of our investments at cost and fair value as of December 31, 2016 was as follows:

 

   Cost   Fair Value 
Senior Secured – First Lien(a)  $113,264,200   $113,482,205 
Senior Secured – Second Lien   163,112,172    162,486,388 
Unsecured Debt   70,919,986    70,725,412 
Equity   14,920,893    18,931,886 
Total Investments  $362,217,251   $365,625,891 

 

(a) Includes unitranche investments, which account for 14% of our portfolio at fair value.

 

Our investment portfolio may contain loans that are in the form of lines of credit or revolving credit facilities, which require us to provide funding when requested by portfolio companies in accordance with the terms and conditions of the underlying loan agreements. As of September 30, 2017 and December 31, 2016, we had four and two such investments, respectively, with aggregate unfunded commitments of $8.2 million and $1.9 million, respectively.

 

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The following is a summary of geographical concentration of our investment portfolio as of September 30, 2017:

 

           % of Total 
   Cost   Fair Value   Investments 
Texas  $96,581,142   $96,375,000    27.13%
New York   41,301,039    41,984,636    11.82%
Canada   26,289,854    26,350,000    7.42%
Illinois   24,215,479    25,160,000    7.08%
California   22,580,901    22,668,648    6.38%
Massachusetts   22,516,768    22,347,850    6.29%
New Jersey   20,812,341    20,829,251    5.86%
Arizona   13,572,134    13,685,429    3.85%
North Carolina   12,838,988    12,910,000    3.63%
Ohio   10,008,032    9,930,000    2.79%
Tennessee   9,842,608    9,900,000    2.79%
Missouri   9,145,337    9,510,000    2.68%
Puerto Rico   8,826,671    6,350,000    1.79%
Pennsylvania   7,841,186    8,058,746    2.27%
Arkansas   7,391,513    7,618,484    2.14%
Georgia   5,927,016    8,110,000    2.28%
Minnesota   5,597,302    5,599,563    1.58%
Washington   4,169,079    4,430,000    1.25%
Utah   1,293,078    1,010,000    0.28%
Alabama   1,206,682    2,000,000    0.56%
Florida   242,304    380,000    0.11%
Virginia   50,001    90,000    0.03%
Grand Total  $352,249,455   $355,297,607    100.0%

 

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The following is a summary of geographical concentration of our investment portfolio as of December 31, 2016:

 

           % of Total 
   Cost   Fair Value   Investments 
Texas  $74,433,626   $73,576,277    20.13%
New York   42,102,392    41,930,666    11.47%
Colorado   27,855,053    28,979,651    7.93%
California   28,298,845    28,606,727    7.82%
Massachusetts   22,467,254    22,944,663    6.28%
Georgia   20,626,735    22,469,217    6.15%
New Jersey   20,710,728    20,804,704    5.69%
Illinois   17,554,821    17,590,281    4.81%
Alabama   16,191,841    16,584,379    4.54%
Missouri   14,096,725    14,441,599    3.95%
Tennessee   12,310,883    12,045,701    3.29%
Arkansas   9,912,815    10,102,283    2.76%
Pennsylvania   8,035,182    8,301,104    2.27%
Puerto Rico   8,712,537    8,229,054    2.25%
Florida   7,453,847    7,431,820    2.03%
Canada   6,765,448    6,692,648    1.83%
Minnesota   6,362,834    6,374,800    1.74%
North Carolina   4,920,321    5,000,000    1.37%
Washington   4,158,696    4,211,990    1.15%
Virginia   4,029,530    4,060,519    1.11%
Arizona   3,408,099    3,410,583    0.93%
Utah   1,291,083    1,311,789    0.36%
Ohio   517,956    525,436    0.14%
   $362,217,251   $365,625,891    100.00%

 

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The following is a summary of industry concentration of our investment portfolio as of September 30, 2017:

 

           % of Total 
   Cost   Fair Value   Investments 
Finance  $45,954,975   $47,680,000    13.42%
Healthcare & Pharmaceuticals   41,937,377    39,469,563    11.11%
Software   36,278,552    36,607,850    10.30%
High Tech Industries   36,027,035    35,320,000    9.94%
Capital Equipment   24,254,964    24,220,000    6.82%
Chemicals, Plastics, & Rubber   20,809,309    21,095,000    5.94%
Retail   18,710,114    18,507,899    5.21%
Construction & Building   17,900,289    17,960,000    5.05%
Services: Consumer   17,893,857    17,990,000    5.06%
Education   17,351,621    17,440,000    4.91%
Consumer Goods: Durable   16,523,848    16,818,484    4.73%
Media: Broadcasting & Subscription   14,416,431    15,804,636    4.45%
Services: Business   9,412,368    11,510,000    3.24%
Automotive   7,841,186    8,058,746    2.27%
Transportation: Cargo   6,780,602    6,840,000    1.93%
Energy: Oil & Gas   6,762,576    6,650,000    1.87%
Insurance   5,406,720    5,500,000    1.55%
Beverage, Food, & Tobacco   3,961,377    3,730,000    1.05%
Hotel, Gaming, & Leisure   3,302,980    3,415,429    0.96%
Environmental Industries   673,273    590,000    0.17%
Services: Government   50,001    90,000    0.03%
   $352,249,455   $355,297,607    100.00%

 

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The following is a summary of industry concentration of our investment portfolio as of December 31, 2016:

 

           % of Total 
   Cost   Fair Value   Investments 
Finance  $56,663,586   $57,504,930    15.73%
Software   36,199,915    36,730,618    10.05%
Media: Broadcasting & Subscription   36,001,876    36,637,803    10.02%
Healthcare & Pharmaceuticals   35,002,051    35,583,505    9.73%
Services: Business   24,105,217    25,884,879    7.08%
Chemicals, Plastics, & Rubber   20,763,612    21,165,542    5.79%
Consumer goods: Durable   18,957,486    19,146,954    5.24%
Retail   18,973,041    19,095,787    5.22%
Education   17,325,046    17,498,701    4.79%
Telecommunications   16,403,791    16,009,390    4.38%
High Tech Industries   16,486,738    15,382,000    4.21%
Consumer Goods: non-durable   12,437,795    12,700,000    3.47%
Beverage, Food, & Tobacco   11,881,630    11,991,250    3.28%
Automotive   8,035,182    8,301,104    2.27%
Services: Consumer   8,453,847    8,153,879    2.23%
Transportation: Cargo   6,765,448    6,692,648    1.83%
Energy: Oil & Gas   7,320,058    6,654,662    1.82%
Services: Government   4,029,530    4,060,519    1.11%
Hotel, Gaming, & Leisure   3,408,099    3,410,583    0.93%
Construction & Building   2,485,347    2,495,701    0.68%
Environmental Industries   517,956    525,436    0.14%
   $362,217,251    365,625,891    100.00%

 

At September 30, 2017, our average portfolio company investment at amortized cost and fair value was approximately $8.6 million and $8.5 million, respectively, and our largest portfolio company investment at amortized cost and fair value was approximately $21.2 million and $21.4 million, respectively. At December 31, 2016, our average portfolio company investment at amortized cost and fair value was approximately $8.0 million and $8.1 million, respectively, and our largest portfolio company investment at amortized cost and fair value was approximately $22.5 million and $22.9 million, respectively.

 

At September 30, 2017, 77% of our debt investments bore interest based on floating rates (subject to interest rate floors), such as LIBOR, and 23% bore interest at fixed rates. At December 31, 2016, 77% of our debt investments bore interest based on floating rates (subject to interest rate floors), such as LIBOR, and 23% bore interest at fixed rates.

 

The weighted average yield on all of our debt investments as of September 30, 2017 and December 31, 2016 was 11.0% and 11.0%, respectively. The weighted average yield was computed using the effective interest rates for all of our debt investments, including accretion of original issue discount.

 

As of September 30, 2017 and December 31, 2016, we had cash and cash equivalents of $11.7 million and $9.2 million, respectively.

 

Investment Activity

 

During the nine months ended September 30, 2017, we made an aggregate of $117.7 million of investments in ten new portfolio companies and three existing portfolio companies. During the nine months ended September 30, 2017, we received an aggregate of $133.4 million in proceeds from repayments of our investments. In addition, we realized a $0.8 million loss on conversion of our term loan in Glori Energy Production, Inc. to equity, which has a cost basis of $81.1 million at September 30, 2017.

 

Our level of investment activity can vary substantially from period to period depending on many factors, including the amount of debt and equity capital required by middle-market companies, the level of merger and acquisition activity, the general economic environment and the competitive environment for the types of investments we make.

 

Asset Quality

 

In addition to various risk management and monitoring tools, Stellus Capital uses an investment rating system to characterize and monitor the credit profile and expected level of returns on each investment in our investment portfolio. This investment rating system uses a five-level numeric scale. The following is a description of the conditions associated with each investment category:

 

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Investment Category 1 is used for investments that are performing above expectations, and whose risks remain favorable compared to the expected risk at the time of the original investment.

 

Investment Category 2 is used for investments that are performing within expectations and whose risks remain neutral compared to the expected risk at the time of the original investment. All new loans are initially rated 2.

 

Investment Category 3 is used for investments that are performing below expectations and that require closer monitoring, but where no loss of return or principal is expected. Portfolio companies with a rating of 3 may be out of compliance with financial covenants.

 

Investment Category 4 is used for investments that are performing substantially below expectations and whose risks have increased substantially since the original investment. These investments are often in work out. Investments with a rating of 4 are those for which some loss of return but no loss of principal is expected.

 

Investment Category 5 is used for investments that are performing substantially below expectations and whose risks have increased substantially since the original investment. These investments are almost always in work out. Investments with a rating of 5 are those for which some loss of return and principal is expected.

 

   As of September 30, 2017   As of December 31, 2016 
   (dollars in millions)   (dollars in millions) 
           Number of           Number of 
       % of Total   Portfolio       % of Total   Portfolio 
Investment Category  Fair Value   Portfolio   Companies   Fair Value   Portfolio   Companies 
1  $24.4    7%   5   $73.5    20%   6 
2   290.1    82%   34    239.8    66%   32 
3   39.4    11%   5    50.7    14%   5 
4   0.9    %   1    0.9    %   1 
5   0.5    %   1    0.7    %   1 
Total  $355.3    100%   46   $365.6    100%   45 

 

Loans and Debt Securities on Non-Accrual Status

 

We will not accrue interest on loans and debt securities if we have reason to doubt our ability to collect such interest. As of September 30, 2017, we had one loan on non-accrual status which represented approximately 2.0% of our loan portfolio at cost and 1.8% at fair value. As of December 31, 2016, we had two loans on non-accrual status, which represented approximately 0.7% of our loan portfolio at cost and 0.4% at fair value.

 

Results of Operations

 

An important measure of our financial performance is net increase (decrease) in net assets resulting from operations, which includes net investment income (loss), net realized gain (loss) and net unrealized appreciation (depreciation). Net investment income (loss) is the difference between our income from interest, dividends, fees and other investment income and our operating expenses including interest on borrowed funds. Net realized gain (loss) on investments is the difference between the proceeds received from dispositions of portfolio investments and their amortized cost, except for loans booked at a discount to account for origination fees. Net unrealized appreciation (depreciation) on investments is the net change in the fair value of our investment portfolio.

 

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Comparison of the Three Months and Nine Months Ended September 30, 2017 and 2016

 

Revenues

 

We generate revenue in the form of interest income on debt investments and capital gains and distributions, if any, on investment securities that we may acquire in portfolio companies. Our debt investments typically have a term of five to seven years and bear interest at a fixed or floating rate. Interest on our debt securities is generally payable quarterly. Payments of principal on our debt investments may be amortized over the stated term of the investment, deferred for several years or due entirely at maturity. In some cases, our debt investments may pay payment in-kind, or PIK interest. Any outstanding principal amount of our debt securities and any accrued but unpaid interest will generally become due at the maturity date. The level of interest income we receive is directly related to the balance of interest-bearing investments multiplied by the weighted average yield of our investments. We expect that the total dollar amount of interest and any dividend income that we earn to increase as the size of our investment portfolio increases. In addition, we may generate revenue in the form of prepayment fees, commitment, loan origination, structuring or due diligence fees.

 

The following shows the breakdown of investment income for the three and nine months ended September 30, 2017 and 2016 (in millions).

 

   Three months ended   Nine months ended 
   September 30,   September 30, 
   (dollars in millions)   (dollars in millions) 
   2017   2016   2017   2016 
Interest income  $9.6   $9.7   $28.5   $28.3 
PIK interest   0.2    0.1    0.3    0.2 
Miscellaneous fees   0.2    0.4    1.4    0.8 
Total  $10.0   $10.2   $30.2   $29.3 

 

The increases in total income for the nine months ended September 30, 2017, was due to higher than normal realization of prepayment penalties in the first two quarters of 2017. The decrease in income for the three months ended September 30, 2017, was due to lower miscellaneous fees overall for the quarter.

 

Expenses

 

Our primary operating expenses include the payment of fees to Stellus Capital under the investment advisory agreement, our allocable portion of overhead expenses under the administration agreement and other operating costs described below. We bear all other out-of-pocket costs and expenses of our operations and transactions, which may include:

 

  organization and offering;

 

  calculating our net asset value (including the cost and expenses of any independent valuation firm);

 

  fees and expenses payable to third parties, including agents, consultants or other advisors, in monitoring financial and legal affairs for us and in monitoring our investments and performing due diligence on our prospective portfolio companies or otherwise relating to, or associated with, evaluating and making investments;

 

  interest payable on debt, if any, incurred to finance our investments and expenses related to unsuccessful portfolio acquisition efforts;

 

  offerings of our common stock and other securities;

 

  base management and incentive fees;

 

  administration fees and expenses, if any, payable under the administration agreement (including our allocable portion of Stellus Capital’s overhead in performing its obligations under the administration agreement, including rent and the allocable portion of the cost of our chief compliance officer, chief financial officer and their respective staffs);

 

  transfer agent, dividend agent and custodial fees and expenses;

 

  U.S. federal and state registration fees;

 

  all costs of registration and listing our shares on any securities exchange;

 

  U.S. federal, state and local taxes;

 

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  independent directors’ fees and expenses;

 

  costs of preparing and filing reports or other documents required by the SEC or other regulators;

 

  costs of any reports, proxy statements or other notices to stockholders, including printing costs;

 

  costs and fees associated with any fidelity bond, directors and officers/errors and omissions liability insurance, and any other insurance premiums;

 

  direct costs and expenses of administration, including printing, mailing, long distance telephone, copying, secretarial and other staff, independent auditors and outside legal costs;

 

  proxy voting expenses; and

 

  all other expenses incurred by us or Stellus Capital in connection with administering our business.

 

The following shows the breakdown of operating expenses for the three and nine months ended September 30, 2017 and 2016 (in millions).

 

   Three months ended   Nine months ended 
   September 30,   September 30, 
   (dollars in millions)   (dollars in millions) 
   2017   2016   2017   2016 
Operating Expenses                    
Management fees  $1.5   $1.6   $4.6   $4.7 
Valuation Fees   0.1    0.2    0.3    0.3 
Administrative services expenses   0.3    0.2    0.9    0.8 
Incentive fees   0.5    1.1    2.7    3.1 
Professional fees   0.4    0.2    0.9    0.5 
Directors’ fees   0.1    0.1    0.3    0.3 
Insurance expense   0.1    0.1    0.3    0.4 
Interest expense and other fees   2.0    2.0    5.9    6.0 
Deferred offering costs               0.3 
Other general and administrative   0.2    0.1    0.5    0.2 
Total Operating Expenses  $5.2   $5.6   $16.4   $16.6 
Loss on Extinguished Debt   0.3        0.3     

 

Net Investment Income

 

For the three months ended September 30, 2017, net investment income was $4.4 million, or $0.29 per common share (based on 15,668,415 weighted-average common shares outstanding at September 30, 2017).

 

For the three months ended September 30, 2016, net investment income was $4.6 million, or $0.37 per common share (based on 12,479,958 weighted-average common shares outstanding at September 30, 2016).

 

For the nine months ended September 30, 2017, net investment income was $13.6 million, or $0.93 per common share (based on 14,510,408 weighted-average common shares outstanding at September 30, 2017).

 

For the nine months ended September 30, 2016, net investment income was $12.7 million, or $1.01 per common share (based on 12,479,959 weighted-average common shares outstanding at September 30, 2016).

 

Net Realized Gains and Losses

 

We measure realized gains or losses by the difference between the net proceeds from the repayment or sale or disposition and the amortized cost basis of the investment, using the specific identification method, without regard to unrealized appreciation or depreciation previously recognized.

 

Repayments and sales of investments and amortization of other certain investments for the three months ended September 30, 2017 totaled $53.5 million, and net realized gains totaled $5.2 million, mostly from a realization of our equity investment in a portfolio company.

 

Repayments and sales of investments and amortization of other certain investments for the three months ended September 30, 2016 totaled $23.2 million, including $3.6 million of receivable for the sale of one investment, and net realized losses totaled $0.9 million.

 

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Repayments and sales of investments and amortization of other certain investments and a noncash conversion of debt to equity for the nine months ended September 30, 2017 totaled $133.4 million, and net realized gains totaled $4.5 million.

 

Repayments and sales of investments and amortization of other certain investments for the nine months ended September 30, 2016 totaled $39.2 million including $3.6 million of receivable for the sale of investments and net realized losses totaled $0.9 million.

 

Net Change in Unrealized Appreciation (depreciation) of Investments

 

Net change in unrealized appreciation (depreciation) primarily reflects the change in portfolio investment values during the reporting period, including the reversal of previously recorded appreciation or depreciation when gains or losses are realized.

 

Net change in unrealized appreciation (depreciation) on investments and cash equivalents for the three months ended September 30, 2017 and 2016 totaled ($4.0) million and $6.2 million, respectively.

 

Net change in unrealized appreciation (depreciation) on investments and cash equivalents for the nine months ended September 30, 2017 and 2016 totaled ($0.3) million and $5.4 million, respectively.

 

The net change in unrealized depreciation for the three and nine months ended September 30, 2017 was due primarily to the re-class of unrealized appreciation to realized depreciation in connection with the realization of our equity investment in a portfolio company, as well as additional depreciation on two of our loans. The increase in the change in unrealized appreciation for the three and nine months ended September 30, 2016 was due to an additional depreciation on our one-non-accrual loan, as well as the general tightening of market interest rate spreads.

 

Net Increase in Net Assets Resulting from Operations

 

For the three months ended September 30, 2017, net increase in net assets resulting from operations totaled $5.6 million, or $0.36 per common share (based on 15,668,415 weighted-average common shares outstanding at September 30, 2017).

 

For the three months ended September 30, 2016, net increase in net assets resulting from operations totaled $9.9 million, or $0.80 per common share (based on 12,479,958 weighted-average common shares outstanding at September 30, 2016).

 

For the nine months ended September 30, 2017, net increase in net assets resulting from operations totaled $17.7 million, or $1.22 per common share (based on 14,510,408 weighted-average common shares outstanding at September 30, 2017).

 

For the nine months ended September 30, 2016, net increase in net assets resulting from operations totaled $17.5 million, or $1.40 per common share (based on 12,479,959 weighted-average common shares outstanding at September 30, 2016).

 

The increase in net assets resulting from operations was comprised of net investment income and net realized and unrealized gains of $1.2 million.

 

Financial condition, liquidity and capital resources

 

Cash Flows from Operating and Financing Activities

 

Our operating activities provided net cash of $29.4 million for the nine months ended September 30, 2017, primarily in connection with the repayment of our investments, some of which was offset by the purchase and origination of new portfolio investments. Our financing activities for the nine months ended September 30, 2017 used cash of $26.9 million due to distributions to stockholders and net repayments of our Credit Facility during the period some of which offset by net proceeds from the issuance of common stock and the 2022 notes.

 

Our operating activities used cash of $12.5 million for the nine months ended September 30, 2016, primarily in connection with purchases of investments, offset by cash interest received. Our financing activities for the nine months ended September 30, 2016 used cash of $14.7 million due to distributions to stockholders during the period.

 

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Liquidity and Capital Resources

 

Our liquidity and capital resources are derived from the Credit Facility, SBA-guaranteed debentures, the offering of securities and cash flows from operations, including investment sales and repayments, and income earned. Our primary use of funds from operations includes investments in portfolio companies and other operating expenses we incur, as well as the payment distributions to the holders of our common stock. A proposal, approved by our stockholders at our 2017 Annual Meeting of Stockholders, authorizes us to sell shares equal to up to 25% of our outstanding common stock below the then current net asset value per share in one or more offerings. This authorization will expire in 2018 on the one year anniversary of our 2017 Annual Meeting of Stockholders. We would need similar future approval from our stockholders to issue shares below the then current net asset value per share any time after the expiration of the current approval. We may use, and expect to continue to use, these capital resources as well as proceeds from turnover within our investment portfolio and from public and private offerings of securities to finance our investment activities.

 

Although we expect to fund the growth of our investment portfolio through the net proceeds from future public and private equity offerings and issuances of senior securities or future borrowings to the extent permitted by the 1940 Act, our plans to raise capital may not be successful. In this regard, if our common stock trades at a price below our then-current net asset value per share, we may be limited in our ability to raise equity capital given that we cannot sell our common stock at a price below net asset value per share unless our stockholders approve such a sale and our board of directors makes certain determinations in connection therewith. In addition, we intend to distribute between 90% and 100% of our taxable income to our stockholders in order to satisfy the requirements applicable to RICs under Subchapter M of the Code. Consequently, we may not have the funds or the ability to fund new investments, to make additional investments in our portfolio companies, to fund our unfunded commitments to portfolio companies or to repay borrowings. In addition, the illiquidity of our portfolio investments may make it difficult for us to sell these investments when desired and, if we are required to sell these investments, we may realize significantly less than their recorded value.

 

Also, as a BDC, we generally are required to meet a coverage ratio of total assets, less liabilities and indebtedness not represented by senior securities, to total senior securities, which include all of our borrowings and any outstanding preferred stock, of at least 200%. This requirement limits the amount that we may borrow. We have received exemptive relief from the SEC to permit us to exclude the debt of our SBIC subsidiary guaranteed by the SBA from the definition of senior securities in the 200% asset coverage test under the 1940 Act. As of September 30, 2017 and December 31, 2016, our asset coverage ratio was 359% and 221%, respectively. At all times during the nine months ended September 30, 2017 and year ended December 31, 2016, we were in compliance with the asset coverage requirements. The amount of leverage that we employ will depend on our assessment of market conditions and other factors at the time of any proposed borrowing, such as the maturity, covenant package and rate structure of the proposed borrowings, our ability to raise funds through the issuance of shares of our common stock and the risks of such borrowings within the context of our investment outlook. Ultimately, we only intend to use leverage if the expected returns from borrowing to make investments will exceed the cost of such borrowing. As of September 30, 2017 and December 31, 2016, we had cash and cash equivalents of $11.7 million and $9.2 million, respectively.

 

Credit Facility

 

On November 7, 2012, the Company entered into a revolving credit facility (the “Credit Facility”) with various lenders. SunTrust Bank, one of the lenders, serves as administrative agent under the Credit Facility. The Credit Facility, as amended on November 21, 2014 and August 31, 2016, provides for borrowings in an aggregate amount of $120.0 million on a committed basis with an accordion feature that allows the Company to increase the aggregate commitments up to $195.0 million, subject to new or existing lenders agreeing to participate in the increase and other customary conditions. There can be no assurances that existing lenders will agree to such an increase, or that additional lenders will join the Credit Facility to increase available borrowings.

 

Borrowings under the Credit Facility bear interest, subject to the Company’s election, on a per annum basis equal to (i) LIBOR plus 2.625% with no LIBOR floor or (ii) 1.625% plus an alternate base rate based on the highest of the Prime Rate, Federal Funds Rate plus 0.5% or one month LIBOR plus 1.0%. The Company pays unused commitment fees of 0.50% per annum on the unused lender commitments under the Credit Facility. Interest is payable quarterly in arrears. Any amounts borrowed under the Credit Facility will mature, and all accrued and unpaid interest thereunder will be due and payable, on October 1, 2018.

 

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The Company’s obligations to the lenders are secured by a first priority security interest in its portfolio of securities and cash not held at the SBIC subsidiary, but excluding short term investments. The Credit Facility contains certain affirmative and negative covenants, including but not limited to: (i) maintaining a minimum liquidity test of at least 85% of adjusted borrowing base, (ii) maintaining an asset coverage ratio of at least 2.0 to 1.0, and (iii) maintaining a minimum shareholder’s equity. As of September 30, 2017, the Company was in compliance with these covenants. Additionally, the Credit Facility requires that the Company meet certain conditions in connection with incurring additional indebtedness under the Credit Facility, including that the Company have a minimum asset coverage ratio of 2.20 to 1.0 immediately after giving effect to such borrowing. As of September 30, 2017, the Company’s asset coverage ratio was 3.59 to 1.0.

 

As of September 30, 2017 and December 31, 2016, the outstanding balance under the Credit Facility was $36.0 million and $116.0 million, respectively. The carrying amount of the amount outstanding under the Credit Facility approximates its fair value. The Company incurred total costs of $3.1 million in connection with obtaining, amending, and maintaining the Credit Facility, which are being amortized over the life of the Credit Facility. As of September 30, 2017 and December 31, 2016, $0.5 million and $0.8 million of such prepaid loan structure fees and administration fees had yet to be amortized, respectively. These prepaid loan fees are presented on our consolidated statement of assets and liabilities as a deduction from the debt liability attributable to the Credit Facility as required by ASU No. 2015-3.

 

For the three months ended September 30, 2017, the weighted average effective interest rate under the Credit Facility was approximately 4.1% (approximately 5.9% including commitment fees and other loan fees). The average borrowings under the Credit Facility for the three months ended September 30, 2017 were $47.3 million.

 

For the nine months ended September 30, 2017, the weighted average effective interest rate under the Credit Facility was approximately 3.7% (approximately 4.7% including commitment fees and other loan fees). The average borrowings under the Credit Facility for the nine months ended September 30, 2017 were $70.0 million.

 

For the three months ended September 30, 2016, the weighted average effective interest rate under the Credit Facility was approximately 3.2% (approximately 3.7% including commitment and other loan fees). The average borrowings under the Credit Facility for the three months ended September 30, 2016 were $105.2 million.

 

For the nine months ended September 30, 2016, the weighted average effective interest rate under the Credit Facility was approximately 3.1% (approximately 3.7% including commitment and other loan fees). The average borrowings under the Credit Facility for the nine months ended September 30, 2016 were $107.1 million.

 

The increase in the effective interest rate over the periods above is due to (1) an increase in the LIBOR rate; and (2) the increased impact of amortization of deferred financing costs on the lower average borrowings in 2017.

 

Interest is paid quarterly in arrears. The following table summarizes the interest expense and amortized loan fees on the Credit Facility for the three and nine months ended September 30, 2017 and 2016 (in millions):

 

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   September 30,   September 30,   September 30,   September 30, 
   2017   2016   2017   2016 
   (dollars in millions)  
Interest expense  $0.5   $0.8   $1.9   $2.5 
Loan fee amortization   0.1    0.1    0.3    0.4 
Commitment fees on unused portion   0.1    -    0.2    0.1 
Total interest and other fees  $0.7   $0.9   $2.4   $3.0 
                     
Cash paid for interest and unused fees  $0.4   $0.9   $2.0   $2.6 

 

See Note 12 Subsequent Events for information on changes to the credit facilities.

 

2022 Notes Offering

 

On May 5, 2014, the Company closed a public offering of $25.0 million in aggregate principal amount of 6.50% notes (the “2019 Notes”) due April 30, 2019. On August 21, 2017, the Company caused notices to be issued to the holders of its 2019 Notes regarding the Company’s exercise of its option to redeem all of the issued and outstanding 2019 Notes, pursuant to Section 1101 of the Base Indenture dated as of May 5, 2014, between the Company and U.S. Bank National Association, as trustee, and Section 1.01(h)(i) of the First Supplemental Indenture dated as of May 5, 2014. The Company redeemed all $25.0 million in aggregate principal amount of the 2019 Notes on September 20, 2017. The 2019 Notes were redeemed at 100% of their principal amount, plus the accrued and unpaid interest thereon through the redemption date. As a result of the redemption, the Company recognized a loss on the extinguishment of debt of $0.3 million for the three and nine months ended September 30, 2017, due to the amortization of the deferred financing costs remaining on the 2019 Notes.

 

The following table summarizes the interest expense and deferred financing costs on the 2019 Notes for the three and nine months ended September 30, 2017 and 2016 (in millions):

 

   September 30,   September 30,   September 30,   September 30, 
   2017   2016   2017   2016 
   (dollars in millions)  
Interest expense  $0.4   $0.4   $1.2   $1.2 
Deferred financing costs   -    0.1    0.1    0.1 
Total interest and other fees  $0.4   $0.5   $1.3   $1.3 
Loss on extinguishment of debt   0.3    -    0.3    - 
                     
Cash paid for interest  $0.5   $0.4   $1.4   $1.2 

 

On August 21, 2017, the Company issued $42.5 million in aggregate principal amount of 5.75% fixed-rate notes due 2022 (the “2022 Notes” and together with the 2019 Notes, the “Notes”). On September 8, 2017, the Company issued an additional $6.38 million in aggregate principal amount of the 2022 Notes pursuant to a full exercise of the underwriters’ overallotment option. The 2022 Notes will mature on September 15, 2022, 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 September 15, 2019 at a redemption price equal to 100% of the outstanding principal, plus accrued and unpaid interest. Interest is payable quarterly beginning December 15, 2017.

 

The Company used all of the net proceeds from this offering to fully repay the 2019 Notes and a portion of the amount outstanding under the Credit Facility. As of September 30, 2017 and December 31, 2016, the aggregate carrying amount of the 2022 Notes was approximately $48.9 million and $25.0 million for the 2019 Notes, and the fair value of the Notes was approximately $49.7 million and $25.2 million, respectively. The 2022 Notes are listed on New York Stock Exchange under the trading symbol “SCA”. The fair value of the Notes is based on the closing price of the security, which is a Level 2 input under ASC 820 due to sufficient trading volume.

 

In connection with the issuance and maintenance of the 2022 Notes, we have incurred $1.7 million of fees which are being amortized over the term of the 2022 Notes, of which $1.7 million remains to be amortized as of September 30, 2017. These financing costs are presented on the consolidated statement of assets and liabilities as a deduction from the debt liability as required by ASU No. 2015-3.

 

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The following table summarizes the interest expense and deferred financing costs on the 2022 Notes for the three and nine months ended September 30, 2017 and 2016 (in millions):

 

   September 30,   September 30,   September 30,   September 30, 
   2017   2016   2017   2016 
   (dollars in millions)  
Interest expense  $0.3   $-   $0.3   $- 
Deferred financing costs   0.1    -    0.1    - 
Total interest and financing expenses  $0.4   $-   $0.4   $- 
                     
Cash paid for interest  $-   $-   $-   $- 

 

SBA-Guaranteed Debentures

 

 Due to the SBIC subsidiary’s status as a licensed SBIC, we have the ability to issue debentures guaranteed by the SBA at favorable interest rates. Under the regulations applicable to SBIC funds, an SBIC can have outstanding debentures guaranteed by the SBA subject to a regulatory leverage limit, up to two times the amount of regulatory capital. As of September 30, 2017 and December 31, 2016, the SBIC subsidiary had $58.5 million and $38.5 million in regulatory capital, respectively, as such term is defined by the SBA.

 

As a BDC, we are only allowed to employ leverage to the extent that our asset coverage, as defined in the 1940 Act, equals at least 200% after giving effect to such leverage. The amount of leverage that we employ at any time depends on our assessment of the market and other factors at the time of any proposed borrowing.

 

On August 12, 2014, we obtained exemptive relief from the SEC to permit us to exclude the debt of the SBIC subsidiary guaranteed by the SBA from our 200% asset coverage test under the 1940 Act. The exemptive relief provides us with increased flexibility under the 200% asset coverage test by permitting us to borrow up to $65 million more than we would otherwise be able to absent the receipt of this exemptive relief.

 

On a stand-alone basis, the SBIC subsidiary held $126.0 million and $104.6 million in assets at September 30, 2017 and December 31, 2016, respectively, which accounted for approximately 32.9% and 27.5% of our total consolidated assets, respectively.

 

Debentures guaranteed by the SBA have fixed interest rates that equal prevailing 10-year Treasury Note rates plus a market spread and have a maturity of ten years with interest payable semi-annually. The principal amount of the debentures is not required to be paid before maturity, but may be pre-paid at any time with no prepayment penalty. As of both September 30, 2017 and December 31, 2016, the SBIC subsidiary had $65.0 million of SBA-guaranteed debentures (the “SBA Debentures”) outstanding, which mature ten years from issuance. The first maturity related to the SBA Debentures does not occur until 2025, and the remaining weighted average duration of all of our outstanding SBA Debentures is approximately 8.1 years as of September 30, 2017.

 

As of September 30, 2017 and December 31, 2016, the carrying amount of the SBA Debentures approximated their fair value. The fair values of the SBA Debentures are determined in accordance with ASC 820, which defines fair value in terms of the price that would be paid to transfer a liability in an orderly transaction between market participants at the measurement date under current market conditions. The fair value of the SBA Debentures are estimated based upon market interest rates for our own borrowings or entities with similar credit risk, adjusted for nonperformance risk, if any. At September 30, 2017 and December 31, 2016 the SBA Debentures would be deemed to be Level 3, as defined in Note 6 to our consolidated financial statements.

 

As of September 30, 2017, the Company has incurred $2.2 million in financing costs related to the SBA Debentures. As of September 30, 2017 and December 31, 2016, $1.4 million and $1.7 million of prepaid financing costs had yet to be amortized, respectively. These prepaid loan fees are presented on our consolidated statement of assets and liabilities as a deduction from the debt liability as required by ASU No. 2015-3.

 

For the three and nine months ended September 30, 2017, the weighted average effective interest rate for the SBA Debentures was approximately 3.1% (approximately 3.6% including loan fees). The average borrowings of SBA Debentures for the three and nine months ended September 30, 2017 were $65.0 million.

 

For the nine months ended September 30, 2016, the weighted average effective interest rate for the SBA Debentures was approximately 3.1% (approximately 3.6% including loan fees). The average borrowings of SBA Debentures for the nine months ended September 30, 2016 were $65.0 million.

 

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For the nine months ended September 30, 2016, the weighted average effective interest rate for the SBA Debentures was approximately 2.8% (approximately 3.3% including loan fees). The average borrowings of SBA Debentures for the nine months ended September 30, 2016 were $65.0 million.

 

Interest is paid semi-annually, in March and September. The following table summarizes the interest expense and amortized fees on the Debentures for the three and nine months ended September 30, 2017 and 2016 (in millions):

 

   September 30,   September 30,   September 30,   September 30, 
   2017   2016   2017   2016 
   (dollars in millions) 
Interest expense  $0.5   $0.5   $1.5   $1.4 
Debenture fee amortization   0.1    0.1    0.2    0.2 
Total interest and financing expenses  $0.6   $0.6   $1.7   $1.6 
                     
Cash paid for interest  $1.0   $0.9   $2.0   $1.5 

 

Off-Balance Sheet Arrangements

 

We may be a party to financial instruments with off-balance sheet risk in the normal course of business to meet the financial needs of our portfolio companies. As of September 30, 2017 and December 31, 2016, our off-balance sheet arrangements consisted of unfunded commitments to provide debt financing to four and two of our portfolio companies respectively totaling $8.2 million and $1.9 million, respectively. The Company maintains sufficient liquidity to fund such unfunded loan commitments (through cash on hand and available borrowings under the Credit Facility) should the need arise.

 

Regulated Investment Company Status and Dividends

 

We have elected to be treated as a RIC under Subchapter M of the Code. So long as we maintain our status as a RIC, we will not be taxed on our investment company taxable income or realized net capital gains, to the extent that such taxable income or gains are distributed, or deemed to be distributed, to stockholders on a timely basis.

 

Taxable income generally differs from net income for financial reporting purposes due to temporary and permanent differences in the recognition of income and expenses, and generally excludes net unrealized appreciation or depreciation until realized. Dividends declared and paid by us in a year may differ from taxable income for that year as such dividends may include the distribution of current year taxable income or the distribution of prior year taxable income carried forward into and distributed in the current year. Distributions also may include returns of capital.

 

To qualify for RIC tax treatment, we must, among other things, distribute, with respect to each taxable year, at least 90% of our investment company net taxable income (i.e., our net ordinary income and our realized net short-term capital gains in excess of realized net long-term capital losses, if any). If we maintain our qualification as a RIC, we must also satisfy certain distribution requirements each calendar year in order to avoid a federal excise tax on our undistributed earnings of a RIC.

 

We intend to distribute to our stockholders between 90% and 100% of our annual taxable income (which includes our taxable interest and fee income). However, the covenants contained in the Credit Facility may prohibit us from making distributions to our stockholders, and, as a result, could hinder our ability to satisfy the distribution requirement. In addition, we may retain for investment some or all of our net taxable capital gains (i.e., realized net long-term capital gains in excess of realized net short-term capital losses) and treat such amounts as deemed distributions to our stockholders. If we do this, our stockholders will be treated as if they received actual distributions of the capital gains we retained and then reinvested the net after-tax proceeds in our common stock. Our stockholders also may be eligible to claim tax credits (or, in certain circumstances, tax refunds) equal to their allocable share of the tax we paid on the capital gains deemed distributed to them. To the extent our taxable earnings for a fiscal taxable year fall below the total amount of our dividends for that fiscal year, a portion of those dividend distributions may be deemed a return of capital to our stockholders.

 

We may not be able to achieve operating results that will allow us to make distributions at a specific level or to increase the amount of these distributions from time to time. In addition, we may be limited in our ability to make distributions due to the asset coverage test for borrowings applicable to us as a business development company under the 1940 Act and due to provisions in Credit Facility. We cannot assure stockholders that they will receive any distributions or distributions at a particular level.

 

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In accordance with certain applicable Treasury regulations and private letter rulings issued by the Internal Revenue Service, a RIC may treat a distribution of its own stock as fulfilling its RIC distribution requirements if each stockholder may elect to receive his or her entire distribution in either cash or stock of the RIC, subject to a limitation that the aggregate amount of cash to be distributed to all stockholders must be at least 20% of the aggregate declared distribution. If too many stockholders elect to receive cash, each stockholder electing to receive cash must receive a pro rata amount of cash (with the balance of the distribution paid in stock). In no event will any stockholder, electing to receive cash, receive less than 20% of his or her entire distribution in cash. If these and certain other requirements are met, for U.S. federal income tax purposes, the amount of the dividend paid in stock will be equal to the amount of cash that could have been received instead of stock. We have no current intention of paying dividends in shares of our stock in accordance with these Treasury regulations or private letter rulings.

 

Recent Accounting Pronouncements

 

See Note 1 to the consolidated financial statements contained herein for a description of recent accounting pronouncements, if any, including the expected dates of adoption and the anticipated impact on the financial statements.

 

Critical Accounting Policies

 

See Note 1 to the consolidated financial statements contained herein for a description of critical accounting policies.

 

Subsequent Events

 

Investment Portfolio

 

Portfolio Activity

 

On October 16, 2017 the Company invested $12.5 million in the second lien term loan of Magdata Intermediate Holdings, LLC (also referred to as Magnitude Software), a provider of enterprise information management software and related services to fortune 1000 companies.

 

On October 20, 2017 the Company received full repayment on the unsecured term loans of Colford Capital Holdings, LLC for total proceeds of $19.5 million.

 

On October 27, 2017 the Company invested $13.75 million in the second lien term loan of Condor Borrow, LLC, (also referred to as Comodo) a market leading provider or secure socket layer (“SSL”) certificates. Additionally, the Company invested $0.5 million in the equity of the company.

 

Credit Facility

 

On October 11, 2017, the Company entered into a $140 million revolving credit facility with Amegy Bank, who replaced SunTrust Bank as agent, and admitted several new banks and extended the maturity to October 10, 2021. This facility is effective as of October 10, 2017 and is materially the same as the previous facility with the following exceptions: (a) the interest rate was reduced from LIBOR +2.625% to LIBOR +2.50%; (b) the asset coverage test was reduced from 220% to 200%; and (c) an interest coverage test of 2:1 was added. The Company incurred upfront costs of approximately $1.1 million which were deferred and will be amortized over the four year term of the facility. Subsequent to entering the new agreement with Amegy Bank, our credit facility with SunTrust Bank was terminated. On October 11, 2017, in conjunction with securing and entering into the new Credit Agreement, the Company terminated its senior secured revolving credit facility with SunTrust Bank, as administrative agent and a lender, and the other lenders party thereto.

 

On November 1, 2017, we entered into a custody agreement with our new custodian, ZB, A National Association, DBA Amegy Bank. On November 2, 2017, the Company provided notice of termination of its custody agreement dated as of November 1, 2012, between the Company and State Street (the “State Street Agreement”) effective within 60 days.

 

The outstanding balance under the Credit Facility as of November 8, 2017 was $38.5 million.

 

ATM Program

 

Since September 30, 2017, we issued 91,446 shares under the ATM program for net proceeds of $1.2 million (net of sales load) at an average price of $13.68 ($13.47 per share, net).

 

SBIC Subsidiary

 

On November 8, 2017 the SBA granted the Company’s SBIC Subsidiary a commitment of $25.0 million of additional debentures.

 

Dividend Declared

 

On October 12, 2017, the Company’s board of directors declared a regular monthly dividend for each of October 2017, November 2017 and December 2017 as follows:

 

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Declared  Ex-Dividend Date  Record Date  Payment Date  Amount per Share 
10/12/2017  10/30/2017  10/31/2017  11/15/2017  $0.1133 
10/12/2017  11/29/2017  11/30/2017  12/15/2017  $0.1133 
10/12/2017  12/28/2017  12/29/2017  1/12/2018  $0.1133 

 

Item 3.Quantitative and Qualitative Disclosures About Market Risk

 

We are subject to financial market risks, including changes in interest rates. For the quarters ended September 30, 2017 and 2016, 77% and 76% of the loans in our portfolio bore interest at floating rates, respectively. For the quarter ended, 2017, 77% loans in our portfolio, all of the interest rate floors have interest rate floors. In the current interest rate environment, LIBOR is above the floors for substantially all floating rate investments. Assuming that the Statement of Assets and Liabilities as of September 30, 2017, were to remain constant and no actions were taken to alter the existing interest rate sensitivity, a hypothetical one percent increase in LIBOR would increase our net income approximately $497 thousand, due to the current floors in place. A hypothetical decrease in LIBOR would decrease our net income by $114.5 thousand. Although we believe that this measure is indicative of our sensitivity to interest rate changes, it does not adjust for potential changes in credit quality, size and composition of the assets on the balance sheet and other business developments that could affect net increase in net assets resulting from operations, or net income. Accordingly, no assurances can be given that actual results would not differ materially from the potential outcome simulated by this estimate. We may hedge against interest rate fluctuations by using standard hedging instruments such as futures, options and forward contacts subject to the requirements of the 1940 Act. While hedging activities may insulate us against adverse changes in interest rates, they may also limit our ability to participate in the benefits of lower interest rates with respect to our portfolio of investments. For the quarters ended September 30, 2017 and September 30, 2016, we did not engage in hedging activities.

 

Changes in interest rates will affect our cost of funding. Our interest expense will be affected by changes in the published LIBOR rate in connection with the Credit Facility. As of September 30, 2017, we had not entered into any interest rate hedging arrangements. At September 30, 2017, based on our applicable levels of our Credit Facility, a 1% increase in interest rates would have decreased our net investment income by approximately $107 thousand for the quarter ended September 30, 2017.

  

Item 4.Controls and Procedures

 

(a)   Evaluation of Disclosure Controls and Procedures

 

The Company’s management, under the supervision and with the participation of various members of management, including its Chief Executive Officer and its Chief Financial Officer, has evaluated the effectiveness of its disclosure controls and procedures (as defined in Rule 13a-15(e) or Rule 15d-15(e) of the Exchange Act) as of the end of the period covered by this report. Based upon that evaluation, the Company’s CEO and CFO have concluded that the Company’s disclosure controls and procedures are effective as of the end of the period covered by this report.

 

(b)   Changes in Internal Control Over Financial Reporting

 

The Company’s management did not identify any change in the Company’s internal control over financial reporting that occurred during the quarter ended September 30, 2017 that has materially affected, or is reasonable likely to materially affect, the Company’s internal control over financial reporting.

 

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PART II — OTHER INFORMATION

 

Item 1.Legal Proceedings

 

We are not currently subject to any material legal proceedings, nor, to our knowledge, is any material legal proceeding threatened against us. From time to time, we may be a party to certain legal proceedings in the ordinary course of business, including proceedings relating to the enforcement of our rights under contracts with our portfolio companies. While the outcome of these legal proceedings cannot be predicted with certainty, we do not expect that these proceedings will have a material effect upon our financial condition or results of operations.

 

Item 1A.Risk Factors

 

Other than as listed below, there have been no other material changes in the information provided under the heading “Risk Factors” in our Annual Report on Form 10-K as of December 31, 2016. Additional risks and uncertainties not currently known to us or that we currently deem to be immaterial may materially affect our business, financial condition and/or operating results.

 

Our investments in software companies are subject to many risks, including regulatory concerns, litigation risks and intense competition.

 

As of September 30, 2017, our investments in software companies represented 10.3% of our total portfolio, at fair value. Our investments in software companies are subject to substantial risks. For example, our portfolio companies face intense competition since their businesses are rapidly evolving and intensely competitive, and are subject to changing technology, shifting user needs, and frequent introductions of new products and services. Software companies have many competitors in different industries, including general purpose search engines, vertical search engines and e-commerce sites, social networking sites, traditional media companies, and providers of online products and services. Potential competitors to our portfolio companies in the software industries range from large and established companies to emerging start-ups. Further, such companies are subject to laws that were adopted prior to the advent of the Internet and related technologies and, as a result, do not contemplate or address the unique issues of the Internet and related technologies. The laws that do reference the Internet are being interpreted by the courts, but their applicability and scope remain uncertain. For example, the laws relating to the liability of providers of online services are currently unsettled both within the United States and abroad. Claims have been threatened and filed under both U.S. and foreign laws for defamation, invasion of privacy and other tort claims, unlawful activity, copyright and trademark infringement, or other theories based on the nature and content of the materials searched and the ads posted by a company's users, a company's products and services, or content generated by a company's users. Further, the growth of software companies into a variety of new fields implicate a variety of new regulatory issues and may subject such companies to increased regulatory scrutiny, particularly in the United States and Europe. As a result, these portfolio company investments face considerable risk. This could, in turn, materially adversely affect the value of the software companies in our portfolio.

 

Item 2.Unregistered Sales of Equity Securities and Use of Proceeds

 

None.

 

Item 3.Defaults Upon Senior Securities

 

Not applicable.

 

Item 4.Mine Safety Disclosures

 

Not applicable.

 

Item 5.Other Information

 

Not applicable.

 

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Item 6. Exhibits

 

The following exhibits are filed as part of this report or hereby incorporated by reference to exhibits previously filed with the SEC:

 

31.1   Chief Executive Officer Certification Pursuant to Exchange Act Rule 13a-14 (a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002*
     
31.2   Chief Financial Officer Certification Pursuant to Exchange Act Rule 13a-14 (a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002*
     
32.1   Chief Executive Officer Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002*
     
32.2   Chief Financial Officer Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002*

* Filed herewith

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SIGNATURES

 

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

 

  STELLUS CAPITAL INVESTMENT CORPORATION
Dated: November 9, 2017    
  By: /s/ Robert T. Ladd
    Name: Robert T. Ladd
    Title:  Chief Executive Officer and President
     
  By: /s/ W. Todd Huskinson
    Name: W. Todd Huskinson
    Title:  Chief Financial Officer