UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

Form 10-Q 

 

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
  For the quarterly period ended September 30, 2018
   
¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
  For the transition period from to

 

Commission File No. 814-00735

 

KCAP Financial, Inc.

(Exact name of Registrant as specified in its charter)

 

Delaware 20-5951150
   
(State or other jurisdiction of (I.R.S. Employer
Incorporation or organization) Identification Number)

 

295 Madison Avenue, 6th Floor

New York, New York 10017

(Address of principal executive offices)

 

(212) 455-8300

(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 ý No ¨

 

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ¨ No ¨

 

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

 

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

 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 7(a)(2)(B) of the Securities Act. ¨

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes ¨ No x

 

The number of outstanding shares of common stock of the registrant as of November 5, 2018 was 37,366,953.

 

 

 

 

 

TABLE OF CONTENTS

 

    Page
     
  Part I. Financial Information  
     
Item 1. Consolidated Financial Statements
     
  Consolidated Balance Sheets as of September 30, 2018 (unaudited) and December 31, 2017 3
     
  Consolidated Statements of Operations (unaudited) for the three and nine months ended September 30, 2018 and 2017 4
     
  Consolidated Statements of Changes in Net Assets (unaudited) for the nine months ended September 30, 2018 and 2017 5
     
  Consolidated Statements of Cash Flows (unaudited) for the nine months ended September 30, 2018 and 2017 6
     
  Consolidated Schedules of Investments as of September 30, 2018 (unaudited) and  December 31, 2017 7
     
  Consolidated Financial Highlights (unaudited) for the for the nine months ended September 30, 2018 and 2017 24
     
  Notes to Consolidated Financial Statements (unaudited) 25
     
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 59
     
Item 3. Quantitative and Qualitative Disclosures About Market Risk 80
     
Item 4. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure 82
     
Item 5. Controls and Procedures 82
     
  Part II. Other Information  
     
Item 1. Legal Proceedings 83
     
Item 1A. Risk Factors 83
     
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 83
     
Item 3. Defaults Upon Senior Securities 83
     
Item 4. Mine Safety Disclosures 83
     
Item 5. Other Information 83
     
Item 6. Exhibits 83
     
Signatures    

 

 2 

 

 

KCAP FINANCIAL, INC.
 
CONSOLIDATED BALANCE SHEETS

 

   As of
September 30, 2018
   As of
December 31, 2017
 
    (unaudited)      
ASSETS          
Investments at fair value:          
Short-term investments (cost: 2018 - $24,431,512; 2017 - $77,300,320)  $24,431,512   $77,300,320 
Debt securities (amortized cost: 2018 - $149,138,595; 2017 - $125,179,470)   139,799,027    118,197,479 
CLO Fund Securities managed by affiliates (amortized cost: 2018 - $63,580,483; 2017 - $67,212,139)   45,531,058    49,488,393 
CLO Fund Securities managed by non-affiliates (amortized cost: 2018 - $5,188,762; 2017 - $5,126,893)   2,452,873    2,190,280 
Equity securities (cost: 2018 - $10,571,007; 2017 - $10,571,007)   4,079,336    4,414,684 
Asset Manager Affiliates (cost: 2018 - $51,591,230; 2017 - $52,591,230)   35,818,000    38,849,000 
Joint Venture (cost: 2018 - $24,914,858; 2017 - $24,914,858)   21,373,570    21,516,000 
Total Investments at Fair Value (cost: 2018 - $329,416,447; 2017 - $362,895,917)   273,485,375    311,956,156 
Cash   1,713,906    2,034,095 
Restricted cash   987,818     
Interest receivable   2,276,162    1,051,271 
Receivable for open trades       2,993,750 
Due from affiliates   935,120    1,243,493 
Other assets   340,472    530,209 
Total Assets  $279,738,854   $319,808,974 
           
LIABILITIES          
6.125% Notes Due 2022 (net of offering costs of: 2018 - $2,341,686; 2017 - $2,734,248)  $75,065,514   $74,672,952 
7.375% Notes Due 2019 (net of offering costs of: 2018 - $31,173; 2017 - $259,635)   6,968,827    26,740,365 
KCAP Funding I, LLC Revolving Credit Facility (net of offering costs of: 2018 - $1,246,998)   21,701,195     
Payable for open trades       34,215,195 
Accounts payable and accrued expenses   2,008,553    2,350,803 
Accrued interest payable   86,133     
Due to affiliates   127    25,083 
Total Liabilities   105,830,349    138,004,398 
           
COMMITMENTS AND CONTINGENCIES (Note 8)          
           
STOCKHOLDERS' EQUITY          
Common stock, par value $0.01 per share, 100,000,000 common shares authorized; 37,544,083 issued, and 37,349,224 outstanding at September 30, 2018, and 37,507,402 issued, and 37,339,224 outstanding at December 31, 2017   373,492    373,392 
Capital in excess of par value   330,404,400    329,789,716 
Excess distribution of net investment income   (13,201,062)   (9,987,928)
Accumulated net realized losses   (86,338,209)   (86,031,799)
Net unrealized depreciation on investments   (57,330,116)   (52,338,805)
           
Total Stockholders' Equity   173,908,505    181,804,576 
           
Total Liabilities and Stockholders' Equity  $279,738,854   $319,808,974 
           
NET ASSET VALUE PER COMMON SHARE  $4.66   $4.87 

 

See accompanying notes to financial statements.

 

 3 

 

 

KCAP FINANCIAL, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(unaudited)

 

   Three Months Ended   Nine Months Ended 
   September 30,   September 30, 
    2018    2017    2018    2017 
Investment Income:                    
Interest from investments in debt securities  $4,487,575   $2,033,813   $11,796,245   $10,934,928 
Payment-in-kind investment income   329,365    405,858    1,061,419    829,773 
Interest from cash and time deposits   9,767    21,043    71,183    51,250 
Investment income on CLO Fund Securities managed by affiliates   1,179,463    2,693,547    4,428,032    8,378,785 
Investment income on CLO Fund Securities managed by non-affiliates   94,992    99,578    292,694    329,108 
Dividends from Asset Manager Affiliates   300,000    180,000    920,000    180,000 
Investment income - Joint Venture   750,000    685,000    2,150,000    685,000 
Capital structuring service fees   7,588    134,504    114,097    298,628 
Total investment income   7,158,750    6,253,343    20,833,670    21,687,472 
Expenses:                    
Interest and amortization of debt issuance costs   1,871,187    1,371,953    5,582,467    5,790,242 
Compensation   1,004,323    1,072,812    3,216,710    3,473,841 
Professional fees   867,724    802,507    2,489,098    2,545,195 
Insurance   79,152    80,794    236,900    256,473 
Administrative and other   381,835    395,782    1,364,302    1,265,317 
Total expenses   4,204,221    3,723,848    12,889,477    13,331,068 
Net Investment Income   2,954,529    2,529,495    7,944,193    8,356,404 
Realized And Unrealized Gains (Losses) On Investments:                    
Net realized losses from investment transactions   (136,766)   (1,906,537)   (137,336)   (2,871,941)
Net change in unrealized (depreciation) appreciation on:                    
Debt securities   (1,232,216)   1,759,152    (2,357,578)   4,172,723 
Equity securities   (171,775)   (186,368)   (335,348)   (606,179)
CLO Fund Securities managed by affiliates   682,574    (1,590,062)   (325,678)   (3,695,876)
CLO Fund Securities managed by non-affiliates   5,427    (34,655)   200,723    (328,552)
Asset Manager Affiliates investments   (1,035,000)   2,922,000    (2,031,000)   1,481,000 
Joint Venture Investment   282,076    (147,751)   (142,430)   (147,751)
Total net change in unrealized appreciation (depreciation)   (1,468,914)   2,722,316    (4,991,311)   875,365 
Net realized and unrealized appreciation (depreciation) on investments   (1,605,680)   815,779    (5,128,647)   (1,996,576)
Realized losses on extinguishments of Debt       (4,014,723)   (169,074)   (4,121,998)
Net Increase (Decrease ) In Stockholders’ Equity Resulting From Operations  $1,348,849   $(669,449)  $2,646,472   $2,237,830 
Net Increase (Decrease) In Stockholders' Equity Resulting from Operations per Common Share:                    
Basic:  $0.04   $(0.02)  $0.07   $0.06 
Diluted:  $0.04   $(0.02)  $0.07   $0.06 
Net Investment Income Per Common Share:                    
Basic:  $0.08   $0.07   $0.21   $0.23 
Diluted:  $0.08   $0.07   $0.21   $0.23 
                     
Weighted Average Shares of Common Stock Outstanding—Basic   37,349,904    37,196,621    37,354,449    37,202,011 
Weighted Average Shares of Common Stock Outstanding—Diluted   37,349,904    37,196,621    37,354,449    37,202,011 

 

See accompanying notes to consolidated financial statements.

 

 4 

 

 

KCAP FINANCIAL, INC.
 
CONSOLIDATED STATEMENTS OF CHANGES IN NET ASSETS
(unaudited)

 

   Nine Months Ended
September 30,
 
   2018   2017 
           
Operations:          
Net investment income  $7,944,193   $8,356,404 
Net realized losses from investment transactions   (137,336)   (2,871,941)
Realized losses from extinguishments of Debt   (169,074)   (4,121,998)
Net change in unrealized (depreciation) appreciation on investments   (4,991,311)   875,365 
Net increase in stockholders’ equity resulting from operations   2,646,472    2,237,830 
           
Stockholder distributions:   (11,157,327)   (13,315,561)
           
Capital share transactions:          
Dividend reinvestment plan   154,600    288,192 
Common stock withheld for payroll taxes upon vesting of restricted stock   (86,743)   (224,944)
Stock based compensation   546,927    875,002 
Net increase in net assets resulting from capital share transactions   614,784    938,250 
           
Net assets at beginning of period   181,804,576    194,924,925 
           
Net assets at end of period (including undistributed net investment income of $0 in 2018 and $0 in 2017)  $173,908,505   $184,785,444 
           
Net asset value per common share  $4.66   $4.95 
Common shares outstanding at end of period   37,349,224    37,317,815 

 

See accompanying notes to consolidated financial statements.

 

 5 

 

 

KCAP FINANCIAL, INC.
 
CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited)

 

   Nine Months Ended 
   September 30, 
    2018    2017 
OPERATING ACTIVITIES:          
Net increase in stockholder's equity resulting from operations  $2,646,472   $2,237,830 
Adjustments to reconcile net increase in stockholder’s equity resulting from operations to net cash provided by operations:          
Net realized losses on investment transactions   137,336    2,871,941 
Net change in unrealized depreciation from investments   4,991,311    (875,365)
Purchases of investments   (75,550,935)   (202,774,326)
Proceeds from sales and redemptions of investments   115,362,645    252,169,877 
Net accretion of investments   (5,408,308)   (707,654)
Amortization of original issue discount on indebtedness       352,340 
Amortization of debt issuance costs   665,000    557,527 
Realized losses on extinguishments of debt   169,074    4,121,998 
Payment-in-kind interest income   (1,061,419)   (829,774)
Stock-based compensation   546,927    875,002 
Changes in operating assets and liabilities:          
Decrease (increase) in payable for open trades   (34,215,195)   27,065,785 
Decrease in receivable for open trades   2,993,750    2,950,658 
(Increase) decrease in interest and dividends receivable   (1,224,891)   110,574 
Increase in accounts receivable       (2,000,021)
Increase (decrease) in accrued interest payable   86,133    (930,086)
Decrease in other assets   189,737    294,509 
Decrease (increase) in due from affiliates   308,373    (546,905)
(Decrease) increase in due to affiliates   (24,956)   78,384 
Decrease in accounts payable and accrued expenses   (342,250)   (397,876)
Net cash provided by operating activities   10,268,804    84,624,418 
           
FINANCING ACTIVITIES:          
Issuance (forfeitures) of restricted shares   (103)   1,303 
Debt issuance costs   (1,459,899)   (2,798,940)
Distributions to stockholders   (11,002,623)   (13,027,367)
Common stock withheld for payroll taxes upon vesting of restricted stock   (86,743)   (224,944)
Repayment 7.375% Notes Due 2019   (20,000,000)   (6,530,925)
Issuance of 6.125% Notes Due 2022       77,407,200 
Repayment of Senior Funding Notes       (147,350,000)
Borrowings under KCAP Funding LLC, Revolving Credit Facility   31,000,000     
Repayments of KCAP Funding LLC, Revolving Credit Facility   (8,051,807)    
Net cash used in financing activities   (9,601,175)   (92,523,673)
           
CHANGE IN CASH AND RESTRICTED CASH   667,629    (7,899,255)
CASH AND RESTRICTED CASH, BEGINNING OF PERIOD   2,034,095    9,835,555 
CASH AND RESTRICTED CASH, END OF PERIOD  $2,701,724   $1,936,300 
           
Supplemental Information:          
Interest paid during the period  $4,830,690   $5,810,461 
Dividends paid during the period under the dividend reinvestment plan  $154,601   $289,478 

 

See accompanying notes to consolidated financial statements.

 

 6 

 

 

KCAP FINANCIAL, INC.

CONSOLIDATED SCHEDULE OF INVESTMENTS

As of September 30, 2018

 

Debt Securities Portfolio 

 

Portfolio Company /
Principal Business
  Investment16
Interest Rate¹ / Maturity
  Initial
Acquisition
Date
   Principal   Amortized
Cost
   Fair Value2 

Advanced Lighting Technologies, Inc.(8)(13)(14)

Consumer goods: Durable

 

Junior Secured Loan — Second Lien Notes

9.4% Cash, 10.0% PIK, 3 month LIBOR(2.41%) + 7.00%; LIBOR Floor 1.00% , Due 10/23  

   6/13/2012   $955,491   $955,490   $394,355 
                        

Avalign Technologies, Inc.(8)(14)(15)

 Healthcare & Pharmaceuticals

 

Senior Secured Loan — Initial Term Loan (First Lien)

6.8% Cash, 1 month LIBOR(2.25%) + 4.50%; LIBOR Floor 1.00% , Due 7/21  

   7/16/2015    1,004,411    1,002,658    1,000,895 
                        

Avalign Technologies, Inc.(8)(14)(15)

 Healthcare & Pharmaceuticals

 

Junior Secured Loan — Initial Term Loan (Second Lien)

10.6% Cash, 3 month LIBOR(2.31%) + 8.25%; LIBOR Floor 1.00% , Due 7/22  

   7/16/2015    1,500,000    1,490,789    1,474,200 
                        

BMC Acquisition, Inc. (aka BenefitMall)(8)(14)(15)

Banking, Finance, Insurance & Real Estate

 

Senior Secured Loan — Initial Term Loan

7.8% Cash, 6 month LIBOR(2.50%) + 5.25%; LIBOR Floor 1.00% , Due 12/24  

   1/2/2018    2,977,500    2,975,935    2,950,405 
                        

BW NHHC Holdco Inc.(8)(14)(15)

 Healthcare & Pharmaceuticals

 

Senior Secured Loan — Initial Term Loan (First Lien)

7.2% Cash, 1 month LIBOR(2.16%) + 5.00% , Due 5/25  

   5/16/2018    1,995,000    1,966,602    1,965,075 
                        

Child Development Schools, Inc.(8)(14)(15)

Services: Business

 

Senior Secured Loan — Term Loan

6.4% Cash, 3 month LIBOR(2.20%) + 4.25% , Due 5/23  

   6/6/2018    4,863,014    4,851,642    4,850,856 
                        

Community Care Health Network, Inc. (aka Matrix Medical Network)(8)(15)

 Healthcare & Pharmaceuticals

 

Senior Secured Loan — Closing Date Term Loan

7.0% Cash, 3 month LIBOR(2.29%) + 4.75%; LIBOR Floor 1.00% , Due 2/25  

   2/9/2018    1,995,000    1,990,444    2,010,591 
                        

CSM Bakery Solutions Limited (fka CSM Bakery Supplies Limited)(8)

Beverage, Food and Tobacco

 

Junior Secured Loan — Term Loan (Second Lien)

10.1% Cash, 3 month LIBOR(2.34%) + 7.75%; LIBOR Floor 1.00% , Due 7/21  

   5/23/2013    3,000,000    3,006,937    2,892,600 
                        

CT Technologies Intermediate Holdings, Inc. (Smart Holdings Corp.) (aka HealthPort)(8)(15)

Healthcare & Pharmaceuticals

 

Senior Secured Loan — New Term Loan Facility

6.5% Cash, 1 month LIBOR(2.24%) + 4.25%; LIBOR Floor 1.00% , Due 12/21  

   11/19/2014    3,974,333    3,967,730    3,750,776 
                       

Cyanco Intermediate 2 Corp.(8)

Chemicals, Plastics and Rubber

 

Junior Secured Loan — Initial Term Loan (Second Lien)

9.7% Cash, 1 month LIBOR(2.24%) + 7.50%; , Due 3/26  

   

3/9/2018

    

4,681,250

    

4,637,310

    

4,635,842

 

 

See accompanying notes to financial statements.

 

 7 

 

 

Portfolio Company /

Principal Business

  Investment16
Interest Rate¹ / Maturity
  Initial
Acquisition
Date
  Principal   Amortized
Cost
   Fair Value 

Decolin Inc.(3)(14)(15)

Textiles and Leather

 

Senior Secured Loan — Initial Term Loan

6.7% Cash, 1 month LIBOR(2.21%) + 4.50%; LIBOR Floor 1.00% , Due 12/23  

  1/26/2018   2,190,363    2,180,627    2,191,239 
                      

Drew Marine Group Inc.(8)(14)(15)

Transportation: Cargo

 

Junior Secured Loan — Term Loan (Second Lien)

9.2% Cash, 1 month LIBOR(2.24%) + 7.00%; LIBOR Floor 1.00% , Due 5/21  

  11/19/2013   4,000,000    4,000,701    4,000,400 
                      

EagleTree-Carbide Acquisition Corp. (aka Corsair Components, Inc.)(8)(14)

 High Tech Industries

 

Junior Secured Loan — Term Loan (Second Lien)

10.9% Cash, 3 month LIBOR(2.39%) + 8.50%; LIBOR Floor 1.00% , Due 8/25  

  9/29/2017   5,000,000    4,934,137    5,003,000 
                      

EagleTree-Carbide Acquisition Corp. (aka Corsair Components, Inc.)(8)(15)

High Tech Industries

 

Senior Secured Loan — Term Loan (First Lien)

7.1% Cash, 3 month LIBOR(2.39%) + 4.75%; LIBOR Floor 1.00% , Due 8/24  

  9/29/2017   994,981    990,374    994,981 
                      

Evergreen North America Acquisition, LLC (f/k/a Industrial Services Acquisition, LLC)(8)(14)(15)

Environmental Industries

 

Senior Secured Loan — Term Loan

7.4% Cash, 3 month LIBOR(2.44%) + 5.00%; LIBOR Floor 1.00% , Due 6/22  

  6/21/2016   1,119,774    1,124,156    1,119,774 
                      

First American Payment Systems, L.P.(8)(14)(15)

Banking, Finance, Insurance & Real Estate

 

Junior Secured Loan — Term Loan (Second Lien)

12.6% Cash, 1 month LIBOR(2.12%) + 10.50%; LIBOR Floor 1.00% , Due 7/24  

  1/4/2017   1,500,000    1,465,354    1,448,700 
                      

Flexera Software LLC (fka Flexera Software, Inc.)(8)

High Tech Industries

 

Junior Secured Loan — Initial Term Loan (Second Lien)

9.5% Cash, 1 month LIBOR(2.25%) + 7.25%; LIBOR Floor 1.00% , Due 2/26  

  1/25/2018   100,000    99,536    97,180 
                      

GI Advo Opco, LLC(8)(14)(15)

Healthcare & Pharmaceuticals

 

Senior Secured Loan — Term Loan

11.0% Cash, 1 month LIBOR(7.00%) + 4.00%; LIBOR Floor 1.00% , Due 11/21  

  11/19/2015   180,304    179,356    180,250 
                      

GK Holdings, Inc. (aka Global Knowledge)(8)(14)

Services: Business

 

Junior Secured Loan — Initial Term Loan (Second Lien)

12.6% Cash, 3 month LIBOR(2.39%) + 10.25%; LIBOR Floor 1.00% , Due 1/22  

  1/30/2015   1,500,000    1,485,744    1,376,250 
                      

Global Tel*Link Corporation(8)(14)

Telecommunications

 

Junior Secured Loan — Term Loan (Second Lien)

10.6% Cash, 3 month LIBOR(2.39%) + 8.25%; LIBOR Floor 1.25% , Due 11/20  

  5/21/2013   5,000,000    4,972,904    4,960,500 
                      

Global Tel*Link Corporation(8)(14)(15)

Telecommunications

 

Senior Secured Loan — Term Loan (First Lien)

6.4% Cash, 3 month LIBOR(2.39%) + 4.00%; LIBOR Floor 1.25% , Due 5/20  

  12/7/2017   1,473,788    1,471,308    1,477,473 

 

See accompanying notes to financial statements.

 8 

 

 

Portfolio Company /

Principal Business

  Investment16
Interest Rate¹ / Maturity
  Initial
Acquisition
Date
  Principal   Amortized
Cost
   Fair Value 

Grupo HIMA San Pablo, Inc.(8)(14)

Healthcare & Pharmaceuticals

 

Senior Secured Loan — Term B Loan (First Lien)

9.3% Cash, 3 month LIBOR(2.34%) + 7.00%; LIBOR Floor 1.50% , Due 1/18  

  1/30/2013   2,850,000    2,850,000    2,750,250 
                      

Grupo HIMA San Pablo, Inc.(5)(8)(14)

Healthcare & Pharmaceuticals

 

Junior Secured Loan — Term Loan (Second Lien)

13.8% Cash, Due 7/18  

  1/30/2013   7,191,667    7,169,109    4,350,959 
                      

Harland Clarke Holdings Corp. (fka Clarke American Corp.)(8)(14)(15)

Media: Advertising, Printing & Publishing

 

Senior Secured Loan — Initial Term Loan

7.1% Cash, 3 month LIBOR(2.39%) + 4.75%; LIBOR Floor 1.00% , Due 11/23  

  6/18/2013   2,859,503    2,880,231    2,754,059 
                      

Hoffmaster Group, Inc.(8)(14)(15)

Forest Products & Paper

 

Junior Secured Loan — Initial Term Loan (Second Lien)

11.7% Cash, 1 month LIBOR(2.24%) + 9.50%; LIBOR Floor 1.00% , Due 11/24  

  5/6/2014   1,600,000    1,563,068    1,600,960 
                      

Infobase Holdings, Inc.(8)(14)(15)

High Tech Industries

 

Senior Secured Loan — Term Loan

6.9% Cash, 3 month LIBOR(2.39%) + 4.50%; LIBOR Floor 1.00% , Due 12/22  

  12/13/2017  1,962,500    1,945,775    1,962,500 
                      

Ivanti Software, Inc. (fka LANDesk Group, Inc.)(8)(14)

High Tech Industries

 

Junior Secured Loan — Loan (Second Lien)

11.1% Cash, 1 month LIBOR(2.08%) + 9.00%; LIBOR Floor 1.00% , Due 1/25  

  3/10/2017   3,228,619    3,228,619    3,174,378 
                      

Kellermeyer Bergensons Services, LLC(8)

Services: Business

 

Senior Secured Loan — Initial Term Loan (First Lien)

7.3% Cash, 3 month LIBOR(2.32%) + 5.00%; LIBOR Floor 1.00% , Due 10/21  

  10/31/2014   992,268    992,268    992,466 
                      

MB Aerospace Holdings II Corp.(8)(14)(15)

Aerospace and Defense

 

Senior Secured Loan — Initial Term Loan (First Lien)

5.7% Cash, 1 month LIBOR(2.24%) + 3.50%; LIBOR Floor 1.00% , Due 1/25

   5/10/2013   1,240,625     1,235,005     1,205,763  
                      

Onex Carestream Finance LP(8)(14)

Healthcare & Pharmaceuticals

 

Junior Secured Loan — Term Loan (Second Lien)

10.7% Cash, 1 month LIBOR(2.24%) + 8.50%; LIBOR Floor 1.00% , Due 12/19

   10/7/2014   1,495,995     1,495,995     1,493,602  
                      

PVHC Holding Corp(8)(14)(15)

Chemicals, Plastics and Rubber

 

Senior Secured Loan — Initial Term Loan

7.1% Cash, 3 month LIBOR(2.39%) + 4.75%; LIBOR Floor 1.00% , Due 8/24  

  8/10/2018   2,880,000    2,865,898    2,865,600 
                      

Playpower, Inc.(8)(14)(15)

 Construction & Building

 

Senior Secured Loan — Initial Term Loan (First Lien)

7.1% Cash, 3 month LIBOR(2.39%) + 4.75%; LIBOR Floor 1.00% , Due 6/21  

  6/23/2015   1,397,347    1,404,511    1,397,347 

  

See accompanying notes to financial statements.

 9 

 

 

Portfolio Company /

Principal Business

  Investment16
Interest Rate¹ / Maturity
  Initial
Acquisition
Date
  Principal     Amortized
Cost
    Fair Value  

PSC Industrial Holdings Corp.(8)(14)

Environmental Industries

 

Junior Secured Loan — Initial Term Loan (Second Lien)

10.7% Cash, 1 month LIBOR(2.16%) + 8.50%; LIBOR Floor 1.00% , Due 10/25  

  10/5/2017     3,000,000       2,947,145       2,943,000  
                                 

Q Holding Company (fka Lexington Precision Corporation)(8)(15)

Chemicals, Plastics and Rubber

 

Senior Secured Loan — Term B Loan

7.2% Cash, 1 month LIBOR(2.24%) + 5.00%; LIBOR Floor 1.00% , Due 12/21  

  12/16/2016     1,984,536       2,009,931       1,985,727  
                                 

Ravn Air Group, Inc.(8)(14)(15)

Aerospace and Defense

 

Senior Secured Loan — Initial Term Loan

7.4% Cash, 3 month LIBOR(2.39%) + 5.00%; LIBOR Floor 1.00% , Due 7/21  

  7/29/2015     1,921,233       1,921,233       1,880,119  
                                 

Robertshaw US Holding Corp. (fka Fox US Bidco Corp.) (8)(14)

Capital Equipment

 

Junior Secured Loan — Initial Term Loan (Second Lien)

10.3% Cash, 1 month LIBOR(2.25%) + 8.00%; LIBOR Floor 1.00% , Due 2/26  

  2/15/2018     3,000,000       2,972,150       2,967,900  
                                 

Roscoe Medical, Inc.(8)(14)

Healthcare & Pharmaceuticals

 

Junior Secured Loan — Term Loan (Second Lien)

11.25% Cash, Due 9/19  

  3/26/2014     1,700,000       1,696,955       1,598,000  
                                 

Roscoe Medical, Inc.(8)(14)(15)

Healthcare & Pharmaceuticals

 

Junior Secured Loan — Term Loan (Second Lien)

11.25% Cash, Due 9/19  

  3/26/2014     5,000,000       4,991,060       4,700,000  
                                 

Salient CRGT Inc.(8)(14)(15)

High Tech Industries

 

Senior Secured Loan — Initial Term Loan

8.0% Cash, 1 month LIBOR(2.24%) + 5.75%; LIBOR Floor 1.00% , Due 2/22  

  2/27/2017     1,854,534       1,873,765       1,822,822  
                                 

SCSG EA Acquisition Company, Inc.(8)

Healthcare & Pharmaceuticals

 

Junior Secured Loan — Initial Term Loan (Second Lien)

10.6% Cash, 3 month LIBOR(2.34%) + 8.25%; LIBOR Floor 1.00% , Due 9/24  

  8/18/2017     1,000,000       990,804       990,600  
                                 

SCSG EA Acquisition Company, Inc.(8)(15)

Healthcare & Pharmaceuticals

 

Junior Secured Loan — Initial Term Loan (Second Lien)

10.6% Cash, 3 month LIBOR(2.34%) + 8.25%; LIBOR Floor 1.00% , Due 9/24  

  8/18/2017     5,000,000       4,957,642       4,953,000  
                                 

Sierra Enterprises, LLC (aka Lyons Magnus)(8)(14)(15)

Beverage, Food and Tobacco

 

Senior Secured Loan — Tranche B-1 Term Loan (First Lien)

6.0% Cash, 1 month LIBOR(2.24%) + 3.75%; LIBOR Floor 1.00% , Due 11/24  

  11/3/2017     2,977,538       2,963,917       2,996,296  
                                 

Stafford Logistics, Inc.(dba Custom Ecology, Inc.)(8)(13)(14)

Environmental Industries

 

Junior Secured Loan — Restructured Term Loan

1.0% Cash, 7.8% PIK, Due 10/22  

  6/25/2013     1,955,980       1,935,721       779,067  

 

See accompanying notes to financial statements.

 10 

 

 

Portfolio Company /

Principal Business

  Investment 16
Interest Rate¹ / Maturity
  Initial
Acquisition
Date
  Principal     Amortized
Cost
    Fair Value  

Stafford Logistics, Inc.(dba Custom Ecology, Inc.)(8)(14)

Environmental Industries

  Senior Secured Loan — Term Loan
14.3% Cash, Due 10/22
  6/25/2013     339,788       339,788       339,788  
                                 

Tank Partners Holdings, LLC(8)(13)(14)

Energy: Oil & Gas

  Senior Secured Loan — Loan
3.0% Cash, 12.5% PIK, 1 month PRIME(5.00%) + 10.5%; PRIME Floor 3.00% , Due 8/19
  8/28/2014     14,653,914       13,859,091       10,250,413  
                                 

Tex-Tech Industries, Inc.(8)(14)

Textiles and Leather

  Junior Secured Loan — Term Loan (Second Lien)
11.1% Cash, 1 month LIBOR(2.08%) + 9.00%; LIBOR Floor 1.00% , Due 8/24
  8/24/2017     8,008,000       7,957,406       7,947,940  
                                 

Time Manufacturing Acquisition, LLC(8)(14)(15)

Capital Equipment

  Senior Secured Loan — Term Loan
7.6% Cash, 6 month LIBOR(2.63%) + 5.00%; LIBOR Floor 1.00% , Due 2/23
  2/3/2017     1,979,912       1,982,187       1,970,012  
                                 

Trimaran Advisors, L.L.C.(8)(9)(14)

Related Party Loan

  Senior Unsecured Loan — Term Loan Series 1
10.5% Cash, Due 4/30
  10/30/2017     6,277,283       6,277,283       6,277,283  
                                 

TronAir Parent Inc.(8)(14)(15)

Aerospace and Defense

  Senior Secured Loan — Initial Term Loan (First Lien)
7.6% Cash, 12 month LIBOR(2.82%) + 4.75%; LIBOR Floor 1.00% , Due 9/23
  9/30/2016     989,899       987,748       989,404  
                                 

TRSO I, Inc.(8)(14)

Energy: Oil & Gas

  Junior Secured Loan — Term Loan (Second Lien)
14.0% Cash, Due 12/19
  12/24/2012     1,000,000       996,487       1,000,000  
                                 

Verdesian Life Sciences, LLC(8)(14)(15)

Environmental Industries

  Senior Secured Loan — Initial Term Loan
7.3% Cash, 3 month LIBOR(2.34%) + 5.00%; LIBOR Floor 1.00% , Due 7/20
  6/25/2014     2,108,735       2,058,968       2,044,419  
                                 

Weiman Products, LLC(8)(14)(15)

Consumer goods: Non-durable

  Senior Secured Loan — Term Loan
6.6% Cash, 3 month LIBOR(2.39%) + 4.25%; LIBOR Floor 1.00% , Due 11/21
  11/22/2013     1,601,066       1,593,869       1,593,061  
                                 

WireCo WorldGroup Inc. (8)(14)

Capital Equipment

  Junior Secured Loan — Initial Term Loan (Second Lien)
11.2% Cash, 1 month LIBOR(2.24%) + 9.00%; LIBOR Floor 1.00% , Due 9/24
  8/9/2016     3,000,000       2,966,200       2,981,250  
                                 

Zest Acquisition Corp.(8)

Healthcare & Pharmaceuticals

  Junior Secured Loan — Initial Term Loan (Second Lien)
9.8% Cash, 3 month LIBOR(2.34%) + 7.50%; LIBOR Floor 1.00% , Due 3/26
  3/8/2018     3,500,000       3,479,032       3,465,700  
                                 

Total Investment in Debt Securities

(80% of net asset value at fair value)

          $ 150,556,151     $ 149,138,595     $ 139,799,027  

 

See accompanying notes to financial statements.

 11 

 

 

Equity Securities Portfolio

 

Portfolio Company / Principal Business   Investment16  

Initial


Acquisition
Date

  Percentage
Ownership/Shares
    Cost     Fair Value2  

Advanced Lighting Technologies, Inc,(8)(14)

Consumer goods: Durable

  Warrants   6/13/2012     1.90 %   $ -     $ 1,000  
                                 

Advanced Lighting Technologies, Inc.(8)(14)

Consumer goods: Durable

  Membership Interests   6/13/2012     0.40 %     181,999       1,000  
                                 

Aerostructures Holdings L.P.(8)(14)

Aerospace and Defense

  Partnership Interests   2/28/2007     1.16 %     1,000,000       892,283  
                                 

Aerostructures Holdings L.P.(8)(14)

Aerospace and Defense

  Series A Preferred Interests   10/23/2008     1.16 %     250,961       250,000  
                                 

eInstruction Acquisition, LLC(8)(14)

Services: Business

  Membership Units   7/2/2007     1.10 %     1,079,617       1,000  
                                 

FP WRCA Coinvestment Fund VII, Ltd.(3)(14)

Capital Equipment

  Class A Shares   2/2/2007     0.41 %     1,500,000       655,500  
                                 

New Millennium Holdco, Inc. (Millennium Health, LLC)(14)

Healthcare & Pharmaceuticals

  Common   10/7/2014     0.20 %     1,953,299       1,000  
                                 

Perseus Holding Corp.(14)

Hotel, Gaming & Leisure

  Common   4/5/2007     0.19 %     400,000       1,000  
                                 

Roscoe Investors, LLC(8)(14)

Healthcare & Pharmaceuticals

  Class A Units   3/26/2014     1.56 %     1,000,000       1,086,000  
                                 

Stafford Logistics, Inc.(dba Custom Ecology, Inc.)(8)(14)

Environmental Industries

  Class B Units   6/25/2013     1.56 %     -       1,000  
                                 

Stafford Logistics, Inc.(dba Custom Ecology, Inc.)(8)(14)

Environmental Industries

  Class B Equity   6/25/2013     1.56 %     -       1,000  
                                 

Tank Partners Holdings, LLC(8)(10)(14) Energy:

Oil & Gas

  Unit   8/28/2014     10.68 %     980,000       1,000  
                                 

Tank Partners Holdings, LLC(8)(14) Energy:

Oil & Gas

  Warrants   8/28/2014     1.04 %     185,205       1,000  
                                 

TRSO II, Inc.(8)(14) Energy:

Oil & Gas

  Common Stock   10/23/2008     5.40 %     1,680,161       1,029,417  
                                 

Caribe Media Inc. (fka Caribe Information Investments Incorporated)(8)(14)

Media: Advertising, Printing & Publishing

  Common   7/2/2007     1.17 %     359,765       157,136  
                                 

Total Investment in Equity Securities

(2% of net asset value at fair value)

                  $ 10,571,007     $ 4,079,336  

 

See accompanying notes to financial statements.

 12 

 

 

CLO Fund Securities

 

CLO Subordinated

Investments

 

Portfolio Company  Investment16,11  Initial
Acquisition
Date
 

Percentage

Ownership

   Amortized Cost   Fair Value 
Grant Grove CLO, Ltd.(3)(12)(14)  Subordinated Securities, effective interest N/M,17 1/21 maturity  3/13/2007   22.2%  $2,485,886   $1,000 
Katonah III, Ltd.(3)(12)(14)  Subordinated Securities, effective interest N/M,17 5/15 maturity  12/11/2006   23.1%   1,287,155    369,280 
Katonah 2007-I CLO Ltd.(3)(6)(12)(14)  Subordinated Securities, effective interest N/M,17 4/22 maturity    1/23/2008   100.0%   10,309,141    150,000 
Trimaran CLO VII, Ltd.(3)(6)(12)(14)  Subordinated Securities, effective interest N/M,17 6/21 maturity  2/29/2012   10.5%   379,830    10,000 
Catamaran CLO 2012-1 Ltd.(3)(6)(12)(14)  Subordinated Securities, effective interest N/M,17 12/23 maturity  12/20/2012   24.9%   3,534,069    10,000 
Catamaran CLO 2013- 1 Ltd.(3)(6)(14)  Subordinated Securities, effective interest 21.3%, 1/28 maturity    6/4/2013   18.3%   4,976,307    6,072,051 
Catamaran CLO 2014-1 Ltd.(3)(6)(14)  Subordinated Securities, effective interest 13.3%, 4/30 maturity    5/6/2014   20.1%   9,863,503    9,709,699 
Dryden 30 Senior Loan Fund(3)(14)  Subordinated Securities, effective interest 27.2%, 12/29 maturity    10/10/2013   6.8%   1,415,721    2,082,593 
Catamaran CLO 2014-2 Ltd.(3)(6)(14)  Subordinated Securities, effective interest 7.8%, 11/25 maturity    8/15/2014   24.9%   6,372,132    4,262,959 
Catamaran CLO 2015-1 Ltd.(3)(6)(14)  Subordinated Securities, effective interest 10.4%, 10/26 maturity    5/5/2015   9.9%   4,414,389    3,492,190 
Catamaran CLO 2016-1 Ltd.(3)(6)(14)  Subordinated Securities, effective interest 8.7%, 4/27 maturity    12/21/2016   24.9%   9,835,446    8,132,726 
Catamaran CLO 2018-1 Ltd.(3)(6)(14)  Subordinated Securities, effective interest 15.0%, 10/31 maturity    9/27/2018   24.8%   9,500,000    9,000,000 
Total Investment in CLO Subordinated Securities          $64,373,579   $43,292,498 

  

CLO Rated-Note
Investment

 

Portfolio Company  Investment16  Initial
Acquisition
Date
  Percentage
Ownership
   Amortized Cost   Fair Value 
KCAP F3C Senior Funding LLC(6)(14) Class E Notes, 9.8% Cash, 3 month LIBOR
(2.34%) + 7.50%, Due 12/29  
  10/24/2017   27.2%   4,395,666    4,691,433 
                      
Total Investment in CLO Rated-Note          $4,395,666   $4,691,433 
                      

Total Investment in CLO Fund Securities

(28% of net asset value at fair value)

        $68,769,245   $47,983,931 

 

See accompanying notes to consolidated financial statements.

 13 

 

 

Asset Manager Affiliates

 

Portfolio Company / Principal Business  Investment16  Initial
Acquisition
Date
  Percentage
Ownership
   Cost   Fair Value2 
Asset Manager Affiliates(8)(9)(14)  Asset Management Company    12/11/2006   100%  $51,591,230   $35,818,000 
                      

Total Investment in Asset Manager Affiliates

(21% of net asset value at fair value)

          $51,591,230   $35,818,000 

 

Joint Ventures

 

Portfolio Company / Principal Business  Investment16  Initial
Acquisition
Date
  Percentage
Ownership
   Cost   Fair Value 
KCAP Freedom 3 LLC(9)(14)  Joint Venture    7/19/2017   60%  $24,914,858   $21,373,570 
                      

Total Investment in Joint Ventures

(12% of net asset value at fair value)

             $24,914,858   $21,373,570 

 

Short-term Investments 

 

Short-term Investments  Investment16  Initial
Acquisition
Date
  Yield   Par /Amortized
Cost
   Fair Value2 
US Bank Money Market Account(7)(8)  Money Market Account    N/A   0.20%  $24,431,512   $24,431,512 
                      

Total  Short-term Investments

(14% of net asset value at fair value)

          $24,431,512   $24,431,512 
Total Investments4             $329,416,447   $273,485,375 

 

1 A majority of the variable rate loans in the Company’s investment portfolio bear interest at a rate that may be determined by reference to either LIBOR or an alternate Base Rate (commonly based on the Federal Funds Rate or the Prime Rate), which typically resets semi-annually, quarterly, or monthly at the borrower’s option. The Borrower may also elect to have multiple interest reset periods for each loan.  For each such loan, the Company has provided the weighted average annual stated interest rate in effect at September 30, 2018.  As noted in the table above, 77% (based on par) of debt securities contain floors which range between 1.00% and 3.00%.
   
2 Reflects the fair market value of all investments as of September 30, 2018, as determined by the Company’s Board of Directors.
   
3 Non-U.S. company or principal place of business outside the U.S.
   
4 The aggregate cost of investments for federal income tax purposes is approximately $329 million. The aggregate gross unrealized appreciation is approximately $0.3 million, the aggregate gross unrealized depreciation is approximately $56.2 million, and the net unrealized depreciation is approximately $55.9 million.
   
5 Loan or debt security is on non-accrual status and therefore is considered non-income producing.
   
6 An affiliate CLO Fund managed by an Asset Manager Affiliate (as such term is defined in the notes to the consolidated financial statements).
   
7 Money market account.
   
8 Qualified asset for purposes of section 55(a) of the Investment Company Act of 1940, as amended (the “1940 Act”). Qualifying assets represent approximately 74% of the total investments at September 30, 2018.

 

See accompanying notes to consolidated financial statements.

 14 

 

 

9 As defined in the 1940 Act, the Company is deemed to be both an “Affiliated Person” and has “Control” of this portfolio company as the Company owns more than 25% of the portfolio company’s outstanding voting securities or has the power to exercise control over management or policies of such portfolio company (including through a management agreement). Other than for purposes of the 1940 Act, the Company does not believe that it has control over this portfolio company.
   
10 Non-voting.
   
11 CLO Subordinated Investments are entitled to periodic distributions which are generally equal to the remaining cash flow of the payments made by the underlying fund’s investments less contractual payments to debt holders and fund expenses. The estimated annualized effective yield indicated is based upon a current projection of the amount and timing of these distributions. Such projections are updated on a quarterly basis and the estimated effective yield is adjusted prospectively.
   
12 Notice of redemption has been received for this security.
   
13 Loan or security was on partial nonaccrual status, whereby we have recognized income on a portion of contractual PIK amounts due.
   
14 Fair value of this investment was determined using significant unobservable inputs.
   
15 As of September 30, 2018, this investment is owned by KCAP Funding I, LLC and was pledged to secure KCAP Funding I, LLC’s debt obligation pursuant to its senior secured revolving credit facility (the “Revolving Credit Facility”) with the Company, as the servicer, certain institutional lenders, State Bank and Trust Company, as the administrative agent, lead arranger and bookrunner, and CIBC Bank USA, as documentation agent.
   
16 The Company's investments are generally acquired in private transactions exempt from registration under the Securities Act of 1933, as amended (the “Securities Act”) and, therefore, are generally subject to limitations on resale, and may be deemed to be “restricted securities'' under the Securities Act of 1933.
   
17 The remaining collateral in these CLO Fund portfolios are illiquid and not producing meaningful cash flows, and thus, the Company’s investment in the CLO Subordinated securities are not currently receiving periodic cash distributions. Accordingly, the Company is no longer recording any investment income from these investments, and has thus noted the effective interest as not meaningful, or N/M. The fair value of the investment reflects the Company’s estimated share of the fair value of the underlying collateral.

 

See accompanying notes to consolidated financial statements.

 

 15 

 

 

KCAP FINANCIAL, INC.

CONSOLIDATED SCHEDULE OF INVESTMENTS

As of December 31, 2017

 

Debt Securities Portfolio

 

Portfolio Company /
Principal Business
 

Investment

Interest Rate¹ / Maturity

  Principal  

Amortized

Cost

   Fair Value2 
                

Advanced Lighting Technologies, Inc.(8)(14)

Consumer goods: Durable

  Junior Secured Loan — Second Lien Notes
8.7% Cash, 10.0% PIK, 3 month LIBOR(1.70%) + 17.00%; LIBOR Floor 1.00% , Due 10/23
  $889,340   $889,338   $803,598 
                   

Advantage Sales & Marketing Inc.(8)(14)

Services: Business

  Junior Secured Loan — Term Loan (Second Lien)
7.9% Cash, 3 month LIBOR(1.38%) + 6.50%; LIBOR Floor 1.00% , Due 7/22
   1,000,000    1,001,438    988,000 
                   

API Technologies Corp.(8)

High Tech Industries

  Senior Secured Loan — Initial Term Loan
8.2% Cash, 3 month LIBOR(1.69%) + 6.50%; LIBOR Floor 1.00% , Due 4/22
   3,080,305    3,110,759    3,111,108 
                   

Avalign Technologies, Inc.(8)

Healthcare & Pharmaceuticals

  Senior Secured Loan — Initial Term Loan (First Lien)
6.1% Cash, 1 month LIBOR(1.57%) + 4.50%; LIBOR Floor 1.00% , Due 7/21
   1,065,342    1,062,983    1,054,689 
                   

Avalign Technologies, Inc.(8)(14)

Healthcare & Pharmaceuticals

  Junior Secured Loan — Initial Term Loan (Second Lien)
9.7% Cash, 6 month LIBOR(1.46%) + 8.25%; LIBOR Floor 1.00% , Due 7/22
   1,500,000    1,488,964    1,467,300 
                   

BMC Acquisition, Inc. (aka BenefitMall)(8)(14)

Banking, Finance, Insurance & Real Estate

  Senior Secured Loan — Initial Term Loan
7.0% Cash, 3 month LIBOR(1.84%) + 5.17%; LIBOR Floor 1.00% , Due 12/24
   3,000,000    2,998,125    2,970,000 
                   

Carolina Beverage Group LLC(8)(14)

Beverage, Food and Tobacco

  Senior Secured Bond — 10.625% - 08/2018 - 143818AA0 144A
10.6% Cash, Due 8/18
   1,500,000    1,502,374    1,518,750 
                   

CSM Bakery Solutions Limited (fka CSM Bakery Supplies Limited)(8)(14)

Beverage, Food and Tobacco

  Junior Secured Loan — Term Loan (Second Lien)
9.1% Cash, 3 month LIBOR(1.33%) + 7.75%; LIBOR Floor 1.00% , Due 7/21
   3,000,000    3,008,816    2,914,800 
                   

DigiCert, Inc.(8)

High Tech Industries

  Junior Secured Loan — Initial Loan (Second Lien)
9.4% Cash, 3 month LIBOR(1.38%) + 8.00%; LIBOR Floor 1.00% , Due 10/25
   1,000,000    995,059    979,100 
                   

Drew Marine Group Inc.(8)

Transportation: Cargo

  Junior Secured Loan — Term Loan (Second Lien)
8.6% Cash, 1 month LIBOR(1.57%) + 7.00%; LIBOR Floor 1.00% , Due 5/21
   4,000,000    4,000,901    4,010,000 

 

 16 

 

 

Portfolio Company/

Principal Business

 

Investment5

Interest Rate¹/Maturity

  Principal  

Amortized

Cost

   Fair Value 
                   

EagleTree-Carbide Acquisition Corp. (aka Corsair Components, Inc.)(8)(14)

High Tech Industries

  Junior Secured Loan — Term Loan (Second Lien)
10.2% Cash, 3 month LIBOR(1.69%) + 8.50%; LIBOR Floor 1.00% , Due 8/25
   5,000,000    4,927,010    4,997,500 
                   

First American Payment Systems, L.P.(8)

Banking, Finance, Insurance & Real Estate

  Junior Secured Loan — Term Loan (Second Lien)
11.9% Cash, 1 month LIBOR(1.39%) + 10.50%; LIBOR Floor 1.00% , Due 7/24
   1,500,000    1,460,837    1,448,400 
                   

Flexera Software LLC (fka Flexera Software, Inc.)(8)

High Tech Industries

  Senior Secured Loan — Term Loan (First Lien)
5.1% Cash, 1 month LIBOR(1.57%) + 3.50%; LIBOR Floor 1.00% , Due 4/20
   2,000,000    1,995,443    2,000,000 
                   

GI Advo Opco, LLC(8)

Healthcare & Pharmaceuticals

  Senior Secured Loan — Term Loan
6.2% Cash, 3 month LIBOR(1.69%) + 4.50%; LIBOR Floor 1.00% , Due 11/21
   230,756    229,252    230,732 
                   

GK Holdings, Inc. (aka Global Knowledge)(8)

Services: Business

  Junior Secured Loan — Initial Term Loan (Second Lien)
11.9% Cash, 3 month LIBOR(1.69%) + 10.25%; LIBOR Floor 1.00% , Due 1/22
   1,500,000    1,482,520    1,376,400 
                   

Global Tel*Link Corporation(8)

Telecommunications

  Senior Secured Loan — Term Loan (First Lien)
5.7% Cash, 3 month LIBOR(1.69%) + 4.00%; LIBOR Floor 1.25% , Due 5/20
   1,495,689    1,492,021    1,491,949 
                   

Global Tel*Link Corporation(8)(14)

Telecommunications

  Junior Secured Loan — Term Loan (Second Lien)
9.9% Cash, 3 month LIBOR(1.69%) + 8.25%; LIBOR Floor 1.25% , Due 11/20
   5,000,000    4,963,469    4,975,000 
                   

Grupo HIMA San Pablo, Inc.(8)

Healthcare & Pharmaceuticals

  Senior Secured Loan — Term B Loan (First Lien)
8.5% Cash, 3 month LIBOR(1.50%) + 7.00%; LIBOR Floor 1.50% , Due 1/18
   2,850,000    2,849,063    2,593,500 
                   

Grupo HIMA San Pablo, Inc.(8)(14)

Healthcare & Pharmaceuticals

  Junior Secured Loan — Term Loan (Second Lien)
13.8% Cash, Due 7/18
   7,191,667    7,174,676    4,566,708 
                   

Harland Clarke Holdings Corp. (fka Clarke American Corp.)(8)(14)

Media: Advertising, Printing & Publishing

  Senior Secured Loan — Initial Term Loan
6.4% Cash, 3 month LIBOR(1.69%) + 4.75%; LIBOR Floor 1.00% , Due 11/23
   2,986,482    3,011,321    3,003,281 
                   

Hoffmaster Group, Inc.(8)(14)

Forest Products & Paper

  Junior Secured Loan — Initial Term Loan (Second Lien)
11.2% Cash, 3 month LIBOR(1.69%) + 9.50%; LIBOR Floor 1.00% , Due 11/24
   1,600,000    1,558,556    1,600,960 
                   

Industrial Services Acquisition, LLC (aka Evergreen / NAIC)(8)(14)

Environmental Industries

  Senior Secured Loan — Term Loan
6.6% Cash, 1 month LIBOR(1.63%) + 5.00%; LIBOR Floor 1.00% , Due 6/22
   1,167,909    1,173,405    1,167,909 

 

 17 

 

 

Portfolio Company/

Principal Business

 

Investment5

Interest Rate¹/Maturity

  Principal  

Amortized

Cost

   Fair Value 
                   

Infobase Holdings, Inc.(8)(14)

High Tech Industries

  Senior Secured Loan — Term Loan
8.0% Cash, Prime LIBOR(0.00%) + 8.00%; LIBOR Floor 0.00% , Due 12/22
   2,000,000    1,980,000    1,980,000 
                   

Ivanti Software, Inc. (fka LANDesk Group, Inc.)(8)

High Tech Industries

  Junior Secured Loan — Loan (Second Lien)
10.6% Cash, 1 month LIBOR(1.57%) + 9.00%; LIBOR Floor 1.00% , Due 1/25
   3,228,619    3,228,619    3,200,530 
                   

MB Aerospace ACP Holdings II Corp.(8)(14)

Aerospace and Defense

  Senior Secured Loan — Initial Term Loan
7.1% Cash, 1 month LIBOR(1.63%) + 5.50%; LIBOR Floor 1.00% , Due 12/22
   980,000    981,158    980,000 
                   

MB Aerospace ACP Holdings III Corp.(8)(14)

Aerospace and Defense

  Senior Secured Loan — Term Loan
5.1% Cash, 1 month LIBOR(1.58%) + 3.50%; LIBOR Floor 1.00% , Due 1/25
   1,250,000    1,243,750    1,243,750 
                   

National Home Health Care Corp.(8)(14)

Healthcare & Pharmaceuticals

  Junior Secured Loan — Term Loan (Second Lien)
10.4% Cash, 1 month LIBOR(1.43%) + 9.00%; LIBOR Floor 1.00% , Due 12/22
   1,500,728    1,482,044    1,458,257 
                   

Onex Carestream Finance LP(8)

Healthcare & Pharmaceuticals

  Junior Secured Loan — Term Loan (Second Lien)
10.2% Cash, 3 month LIBOR(1.69%) + 8.50%; LIBOR Floor 1.00% , Due 12/19
   1,495,995    1,495,995    1,487,618 
                   

Playpower, Inc.(8)(14)

Construction & Building

  Senior Secured Loan — Initial Term Loan (First Lien)
6.4% Cash, 3 month LIBOR(1.69%) + 4.75%; LIBOR Floor 1.00% , Due 6/21
   994,898    1,004,093    999,872 
                   

PSC Industrial Holdings Corp.(8)(14)

Environmental Industries

  Junior Secured Loan — Initial Term Loan (Second Lien)
10.0% Cash, 1 month LIBOR(1.46%) + 8.50%; LIBOR Floor 1.00% , Due 10/25
   3,000,000    2,941,524    2,940,000 
                   

RESIC Enterprises, LLC (aka Lyons Magnus)(8)

Beverage, Food and Tobacco

  Senior Secured Loan — Initial Term Loan (First Lien)
5.7% Cash, 1 month LIBOR(1.43%) + 4.25%; LIBOR Floor 1.00% , Due 11/24
   3,000,000    2,985,247    3,001,500 
                   

Roscoe Medical, Inc.(8)(14)

Healthcare & Pharmaceuticals

  Junior Secured Loan — Term Loan (Second Lien)
11.3% Cash, Due 9/19
   6,700,000    6,678,900    6,468,850 
                   

Salient CRGT Inc.(8)

High Tech Industries

  Senior Secured Loan — Initial Term Loan
7.3% Cash, 1 month LIBOR(1.57%) + 5.75%; LIBOR Floor 1.00% , Due 2/22
   1,967,742    1,992,339    1,992,339 

 

 18 

 

 

Portfolio Company/

Principal Business

 

Investment5

Interest Rate¹/Maturity

  Principal  

Amortized

Cost

   Fair Value 
                   

SCSG EA Acquisition Company, Inc.(8)

Healthcare & Pharmaceuticals

  Senior Secured Loan — Initial Term Loan (Second Lien)
9.7% Cash, 3 month LIBOR(1.48%) + 8.25%; LIBOR Floor 1.00% , Due 9/24
   5,000,000    4,952,274    4,955,000 
                   

Stafford Logistics, Inc.(dba Custom Ecology, Inc.)(8)(13)(14)

Environmental Industries

  Junior Secured Loan — Restructured Term Loan
8.2% Cash, 7.2% PIK, 3 month LIBOR(1.57%) + 6.62%; LIBOR Floor 1.00% , Due 10/22
   1,883,914    1,875,914    1,318,740 
                   

Stafford Logistics, Inc.(dba Custom Ecology, Inc.)(8)(14)

Environmental Industries

  Senior Secured Loan — Term Loan
13.7% Cash, 3 month LIBOR(1.69%) + 12.00%; LIBOR Floor 1.00% , Due 10/22
   339,788    339,788    339,788 
                   

Tank Partners Holdings, LLC(8)(13)

Energy: Oil & Gas

  Senior Secured Loan — Loan
2.0% Cash, 12.8% PIK, Base Rate (4.25%) + 10.5% , Due 8/19
   12,739,078    12,258,031    9,153,028 
                   

Tex-Tech Industries, Inc.(8)

Textiles and Leather

  Junior Secured Loan — Term Loan (Second Lien)
10.6% Cash, 1 month LIBOR(1.57%) + 9.00%; LIBOR Floor 1.00% , Due 8/24
   8,008,000    7,950,994    7,947,940 
                   

Time Manufacturing Acquisition, LLC(8)

Capital Equipment

  Senior Secured Loan — Term Loan
6.8% Cash, 3 month LIBOR(1.75%) + 5.00%; LIBOR Floor 1.00% , Due 2/23
   994,987    992,633    999,962 
                   

Trimaran Advisors, L.L.C.(8)(9)(14)

Related Party Loan

  Senior Unsecured Loan — Term Loan Series 1
10.5% Cash, Due 4/30
   8,359,051    8,359,051    8,359,051 
                   

Trimaran Advisors, L.L.C.(8)(9)(14)

Related Party Loan

  Senior Unsecured Loan — Term Loan Series 2
10.5% Cash, Due 1/28
   4,418,232    4,418,232    4,418,232 
                   

TronAir Parent Inc.(8)(14)

Aerospace and Defense

  Senior Secured Loan — Initial Term Loan (First Lien)
6.2% Cash, 1 month LIBOR(1.41%) + 4.75%; LIBOR Floor 1.00% , Due 9/23
   997,475    994,981    997,076 
                   

TRSO I, Inc.(8)(14)

Energy: Oil & Gas

  Junior Secured Loan — Term Loan (Second Lien)
14.0% Cash, 3 month LIBOR(1.00%) + 13.00%; LIBOR Floor 1.00% , Due 12/19
   1,000,000    994,351    1,000,000 
                   

Weiman Products, LLC(8)(14)

Consumer goods: Non-durable

  Senior Secured Loan — Term Loan (2013)
6.2% Cash, 3 month LIBOR(1.69%) + 4.50%; LIBOR Floor 1.00% , Due 11/21
   694,662    691,234    694,662 
                   

 

 19 

 

 

Portfolio Company/

Principal Business

 

Investment5

Interest Rate¹/Maturity

  Principal  

Amortized

Cost

   Fair Value 
                   

WireCo WorldGroup Inc. (8)(14)

Capital Equipment

  Junior Secured Loan — Initial Term Loan (Second Lien)
10.5% Cash, 3 month LIBOR(1.48%) + 9.00%; LIBOR Floor 1.00% , Due 9/24
   3,000,000    2,961,988    2,991,600 
                   
Total Investment in Debt Securities (65% of net asset value at fair value)     $126,110,659   $125,179,470   $118,197,479 

 

 20 

 

 

Equity Securities Portfolio

 

Portfolio Company /
Principal Business
  Investment 

Percentage

Ownership/Shares

   Cost   Fair Value2 
                

Aerostructures Holdings L.P.(8)(14)

Aerospace and Defense

  Partnership Interests     1.2%  $1,000,000   $1,000 
                   

Aerostructures Holdings L.P.(8)(14)

Aerospace and Defense

  Series A Preferred Interests     1.2%   250,960    891,661 
                   

DBI Holding LLC(8)(14)

Services: Business

  Warrants     3.2%   -    1,000 
                   

eInstruction Acquisition, LLC(8)(14)

Services: Business

  Membership Units     1.1%   1,079,617    1,000 
                   

FP WRCA Coinvestment Fund VII, Ltd.(3)(14)

Capital Equipment

  Class A Shares     0.0%   1,500,000    689,259 
                   

New Millennium Holdco, Inc. (Millennium Health, LLC)(8)(14)

Healthcare & Pharmaceuticals

  Common     0.2%   1,953,299    1,000 
                   

Perseus Holding Corp.(14)

Hotel, Gaming & Leisure

  Common     -    400,000    1,000 
                   

Roscoe Investors, LLC(8)(14)

Healthcare & Pharmaceuticals

  Class A Units     1.6%   1,000,000    1,229,000 
                   

Stafford Logistics, Inc.(dba Custom Ecology, Inc.)(8)(14)

Environmental Industries

  Class A Equity     1.6%   -    - 
                   

Stafford Logistics, Inc.(dba Custom Ecology, Inc.)(8)(14)

Environmental Industries

  Class B Units      1.5%   -    - 
                   

Tank Partners Holdings, LLC(8)(10)(14)

Energy: Oil & Gas

  Unit     1.3%   980,000    1,000 
                   

Tank Partners Holdings, LLC(8)(14)

Energy: Oil & Gas

  Warrants     1.3%   185,205    1,000 
                   

TRSO II, Inc.(8)(14)

Energy: Oil & Gas

  Common Stock     5.4%   1,680,161    1,280,749 
                   

Advanced Lighting Technologies, Inc,(8)(14)

Consumer goods: Durable

  Warrants     1.9%   -    1,000 
                   

Advanced Lighting Technologies, Inc.(8)(14)

Consumer goods: Durable

  Membership Interests     0.4%   182,000    1,000 
                   

Caribe Media Inc. (fka Caribe Information Investments Incorporated)(8)(14)

Media: Advertising, Printing & Publishing

  Common     1.2%   359,765    315,015 
                   
Total Investment in Equity Securities (2% of net asset value at fair value)          $10,571,007   $4,414,684 

 

 21 

 

 

CLO Fund Securities

 

CLO Subordinated Investments

 

Portfolio Company  Investment(11) 

Percentage

Ownership

   Amortized Cost   Fair Value 
Grant Grove CLO, Ltd.(3)(12)(14)  Subordinated Securities, effective interest N/M, 1/21 maturity     22.2%  $2,485,886   $1,000 
Katonah III, Ltd.(3)(12)(14)  Subordinated Securities, effective interest N/M, 5/15 maturity     23.1%   1,287,155    369,280 
Katonah 2007-I CLO Ltd.(3)(6)(12)(14)  Subordinated Securities, effective interest 9.2%, 4/22 maturity     100.0%   20,524,908    10,770,486 
Trimaran CLO VII, Ltd.(3)(6)(12)(14)  Subordinated Securities, effective interest N/M, 6/21 maturity     10.5%   379,830    10,000 
Catamaran CLO 2012-1 Ltd.(3)(6)(14)  Subordinated Securities, effective interest 15.5%, 12/23 maturity     24.9%   5,847,802    2,320,783 
Catamaran CLO 2013- 1 Ltd.(3)(6)(14)  Subordinated Securities, effective interest 25.1%, 1/28 maturity     18.3%   5,017,307    6,923,699 
Catamaran CLO 2014-1 Ltd.(3)(6)(14)  Subordinated Securities, effective interest 28.4%, 4/30 maturity     20.1%   9,858,073    8,230,178 
Dryden 30 Senior Loan Fund(3)(14)  Subordinated Securities, effective interest 28.7%, 12/29 maturity     6.8%   1,353,852    1,820,000 
Catamaran CLO 2014-2 Ltd.(3)(6)(14)  Subordinated Securities, effective interest 11.5%, 11/25 maturity     24.9%   6,642,805    4,500,962 
Catamaran CLO 2015-1 Ltd.(3)(6)(14)  Subordinated Securities, effective interest 11.8%, 10/26 maturity     9.9%   4,418,647    3,569,600 
Catamaran CLO 2016-1 Ltd.(3)(6)(14)  Subordinated Securities, effective interest 9.6%, 4/27 maturity     24.9%   10,086,802    8,530,685 
                   
Total Investment in CLO Subordinated Securities       $67,903,067   $47,046,673 

 

CLO Rated-Note Investment

 

Portfolio Company  Investment 

Percentage

Ownership

   Amortized Cost   Fair Value 
KCAP F3C Senior Funding LLC(3)(6)(14)  Class E Notes, 8.9% Cash, 3 month LIBOR (1.40%) + 7.50%, Due 12/29     27.4%   4,435,965    4,632,000 
                   
Total Investment in CLO Rated-Note          $4,435,965   $4,632,000 
                   
Total Investment in CLO Fund Securities  (28% of net asset value at fair value)          $72,339,032   $51,678,673 

 

 22 

 

 

Asset Manager Affiliates

 

Portfolio Company /
Principal Business
  Investment 

Percentage

Ownership

   Cost   Fair Value2 
Asset Manager Affiliates(8)(9)(14)  Asset Management Company     100%  $52,591,230   $38,849,000 
                   
Total Investment in Asset Manager Affiliates (21% of net asset value at fair value)          $52,591,230   $38,849,000 

 

Joint Ventures

 

Portfolio Company /
Principal Business
  Investment 

Percentage

Ownership

   Cost   Fair Value 
KCAP Freedom 3 LLC(9)(14)  Joint Venture     60%  $24,914,858   $21,516,000 
                   
Total Investment in Joint Ventures (12% of net asset value at fair value)          $24,914,858   $21,516,000 

 

Short-term Investments

 

Short-term Investments  Investment  Yield   Par /Amortized Cost   Fair Value2 
US Bank Money Market Account(7)(8)  Money Market Account     0.20%  $52,293,570   $52,293,570 
                   
U.S Treasury Bills - CUSIP: 912796MLO(8)  U.S. Government Obligation     1.04%   25,006,750    25,006,750 
                   
Total Short-term Investments  (43% of net asset value at fair value)          $77,300,320   $77,300,320 
Total Investments4          $362,895,917   $311,956,156 

 

1A majority of the variable rate loans in the Company’s investment portfolio bear interest at a rate that may be determined by reference to either LIBOR or an alternate Base Rate (commonly based on the Federal Funds Rate or the Prime Rate), which typically resets semi-annually, quarterly, or monthly at the borrower’s option. The Borrower may also elect to have multiple interest reset periods for each loan. For each such loan, the Company has provided the weighted average annual stated interest rate in effect at December 31, 2017. As noted in the table above, 74% (based on par) of debt securities contain LIBOR floors which range between 1.00% and 3.0%.

 

2Reflects the fair market value of all investments as of December 31, 2017, as determined by the Company’s Board of Directors.
   
3Non-U.S. company or principal place of business outside the U.S.

 

4The aggregate cost of investments for federal income tax purposes is approximately $363 million. The aggregate gross unrealized appreciation is approximately $1.1 million, the aggregate gross unrealized depreciation is approximately $52.0 million, and the net unrealized depreciation is approximately $50.9 million.

 

5No loan or debt securities were on non-accrual status as of December 31, 2017.

 

6An affiliate CLO Fund managed by an Asset Manager Affiliate (as such term is defined in the notes to the consolidated financial statements).

 

7Money market account holding cash.

 

8Qualified asset for purposes of section 55(a) of the Investment Company Act of 1940, as amended (the “1940 Act”).

 

9As defined in the 1940 Act, the Company is deemed to be both an “Affiliated Person” and has “Control” of this portfolio company as the Company owns more than 25% of the portfolio company’s outstanding voting securities or has the power to exercise control over management or policies of such portfolio company (including through a management agreement). Other than for purposes of the 1940 Act, the Company does not believe that it has control over this portfolio company.

 

10Non-voting.

 

11CLO Subordinated Investments are entitled to periodic distributions which are generally equal to the remaining cash flow of the payments made by the underlying fund’s investments less contractual payments to debt holders and fund expenses. The estimated annualized effective yield indicated is based upon a current projection of the amount and timing of these distributions. Such projections are updated on a quarterly basis and the estimated effective yield is adjusted prospectively.

 

12Notice of redemption has been received for this security.

 

13Loan or security was on partial nonaccrual status, whereby we have recognized income on a portion of contractual PIK amounts due.

 

14Fair value of this investment was determined using significant unobservable inputs.

 

 23 

 

 

KCAP FINANCIAL, INC.
CONSOLIDATED FINANCIAL HIGHLIGHTS
(unaudited)

 

  

Nine Months Ended

September 30,

 
   2018   2017 
         
Per Share Data:          
Net asset value, at beginning of period  $4.87   $5.24 
Net investment income1   0.21    0.23 
Net realized gains (losses) from investments1   -    (0.08)
Realized losses from extinguishment of debt1   -    (0.11)
Net change in unrealized depreciation on investments1   (0.13)   0.02 
Net increase in net assets resulting from operations4   0.07    0.06 
Net decrease in net assets resulting from stockholder distributions   (0.30)   (0.36)
Net increase in net assets relating to stock-based transactions:          
Dividend reinvestment plan   -    (0.01)
Common stock withheld for payroll taxes upon vesting of restricted stock   -    0.01 
Stock based compensation   0.02    - 
Net increase in net assets relating to stock-based transactions4   0.02    - 
           
Net asset value, end of period4  $4.66   $4.95 
Total net asset value return2   1.8%   1.3%
           
Ratio/Supplemental Data:          
Per share market value at beginning of period  $3.41   $3.98 
Per share market value at end of period  $3.31   $3.65 
Total market return3   5.9%   0.7%
Shares outstanding at end of period   37,349,224    37,317,815 
Net assets at end of period  $173,908,505   $184,785,444 
Portfolio turnover rate6   39.4%   73.8%
Average par debt outstanding  $105,719,241   $144,298,499 
Asset coverage ratio   259%   274%
Ratio of net investment income to average net assets5   6.0%%   5.9%
Ratio of total expenses to average net assets5   9.7%%   9.4%
Ratio of interest expense to average net assets5   4.2%%   4.1%
Ratio of non-interest expenses to average net assets5   5.5%%   5.3%

 

1Based on weighted average number of common shares outstanding-basic for the period.
2Total net asset value return (not annualized) equals the change in the net asset value per share over the beginning of period net asset value per share plus distributions, divided by the beginning net asset value per share.
3Total market return (not annualized) equals the change in the ending market price, over the beginning of period price per share plus distributions, divided by the beginning market price.
4Totals may not sum due to rounding.
5Annualized.
6Portfolio turnover rate equals the year-to-date sales and paydowns over the average of the invested assets at fair value.

 

See accompanying notes to consolidated financial statements.

 

 24 

 

 

 

KCAP FINANCIAL, INC.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(unaudited)

 

1.ORGANIZATION

 

KCAP Financial, Inc. (“KCAP” or the “Company”) is an internally managed, non-diversified closed-end investment company that is regulated as a business development company (“BDC”) under the Investment Company Act of 1940, as amended (the “1940 Act”). The Company was formed as a Delaware limited liability company on August 8, 2006 and, prior to the issuance of shares of the Company’s common stock in its initial public offering (“IPO”), converted to a corporation incorporated in Delaware on December 11, 2006. Prior to its IPO, the Company did not have material operations. The Company’s IPO of 14,462,000 shares of common stock raised net proceeds of approximately $200 million. Prior to the IPO, the Company issued 3,484,333 shares to affiliates of Kohlberg & Co., L.L.C., a leading middle market private equity firm, in exchange for the contribution to the Company of their ownership interests in Katonah Debt Advisors, L.L.C., and related affiliates (collectively, “Katonah Debt Advisors”) and in securities issued by collateralized loan obligation (“CLO”) funds (“CLO Funds”) managed by Katonah Debt Advisors and two other asset managers.

 

On April 28, 2008, the Company completed a rights offering that resulted in the issuance of 3.1 million shares of the Company’s common stock, and net proceeds of $27 million.

 

On February 29, 2012, the Company purchased Trimaran Advisors, L.L.C. (“Trimaran Advisors”), an asset manager similar to Katonah Debt Advisors, for total consideration of $13.0 million in cash and 3,600,000 shares of the Company’s common stock. Contemporaneously with the acquisition of Trimaran Advisors, the Company acquired from Trimaran Advisors equity interests in certain CLO Funds managed by Trimaran Advisors for an aggregate purchase price of $12.0 million in cash.

 

On February 14, 2013, the Company completed a public offering of 5,232,500 shares of common stock, which included the underwriters’ full exercise of their option to purchase up to 682,500 shares of common stock, at a price of $9.75 per share, raising approximately $51.0 million in gross proceeds. In conjunction with this offering, the Company also sold 200,000 shares of common stock to a member of its Board of Directors, at a price of $9.31125 per share, raising approximately $1.9 million in gross proceeds.

 

On October 6, 2014, the Company completed a follow-on public offering of 3.0 million shares of its common stock at a price of $8.02 per share. The offering raised net proceeds of approximately $23.8 million, after deducting underwriting discounts and offering expenses.

 

As of September 30, 2018, Katonah Debt Advisors and Trimaran Advisors, as well as affiliated management companies Katonah 2007-1 Management, L.L.C., Trimaran Advisors Management, L.L.C. and KCAP Management, L.L.C. (collectively the “Asset Manager Affiliates”), had approximately $3.2 billion of par value assets under management. Katonah Debt Advisors and Trimaran Advisors are registered under the Investment Advisers Act of 1940, as amended, and are each managed independently from the Company by a separate management team (however, certain of the Company’s executive officers also act in similar capacities for one or more of the Asset Manager Affiliates). The Asset Manager Affiliates provide investment management services to CLO Funds, making day-to-day investment decisions concerning the assets of the CLO Funds. The Asset Manager Affiliates, either directly or through their subsidiaries, may make investments in the CLO Funds they manage. In addition, the Company holds investments in a portion of the securities issued by the CLO Funds managed by the Asset Manager Affiliates.

 

During the third quarter of 2017, the Company formed a joint venture with Freedom 3 Opportunities LLC (“Freedom 3 Opportunities”), an affiliate of Freedom 3 Capital LLC, to create KCAP Freedom 3 LLC (the "Joint Venture"). The Company and Freedom 3 Opportunities LLC contributed approximately $37 million and $25 million, respectively, in assets to the Joint Venture, which in turn used the assets to capitalize a new fund (KCAP F3C Senior Funding, L.L.C. or the "Fund") managed by KCAP Management, LLC, one of the Company's indirectly wholly-owned Asset Manager Affiliate subsidiaries. In addition, the Fund used cash on hand and borrowings under a credit facility to purchase approximately $184 million of loans from the Company and the Company used the proceeds from such sale to redeem approximately $147 million in debt issued by KCAP Senior Funding. The Joint Venture may originate loans from time to time and sell them to the Fund.

 

 25 

 

 

During the fourth quarter of 2017, the Fund was refinanced through the issuance of senior and subordinated notes. The Joint Venture purchased 100% of the subordinated notes issued by the Fund.  In connection with the refinancing, the Company received a cash distribution of $12.6 million, $11.8 million of which was a return of capital.

 

The Company has three principal areas of investment:

 

First, the Company originates, structures, and invests in senior secured term loans and mezzanine debt primarily in privately-held middle market companies (the “Debt Securities Portfolio”). In addition, from time to time the Company may invest in the equity securities of privately-held middle market companies.

 

Second, the Company has invested in the Asset Manager Affiliates, which manage CLO Funds.

 

Third, the Company invests in debt and subordinated securities issued by CLO Funds (“CLO Fund Securities”). These CLO Fund Securities are primarily managed by our Asset Manager Affiliates, but from time-to-time the Company makes investments in CLO Fund Securities managed by other asset managers. The CLO Funds typically invest in broadly syndicated loans, high-yield bonds and other credit instruments.

 

The Company may also invest in other investments such as loans to publicly-traded companies, high-yield bonds, joint venture and distressed debt securities. The Company may also receive warrants or options to purchase common stock in connection with its debt investments.

 

The Company has elected to be treated as a regulated investment company (“RIC”) under Subchapter M of the Internal Revenue Code of 1986, as amended (the “Code”). To qualify as a RIC, the Company must, among other things, meet certain source-of-income, and asset diversification and annual distribution requirements. As a RIC, the Company generally will not have to pay corporate-level U.S. federal income taxes on any income that it distributes in a timely manner to its stockholders.

 

On March 29, 2018, the Company’s Board of Directors, including a “required majority” (as such term is defined in Section 57(o) of the 1940 Act) of the Board, approved the modified asset coverage requirements set forth in Section 61(a)(2) of the 1940 Act, as amended by the Small Business Credit Availability Act (“SBCA”). As a result, the Company’s asset coverage requirement for senior securities will be changed from 200% to 150%, effective as of March 29, 2019. However, despite the SBCA, we will continue to be prohibited by the indentures governing our 7.375% Notes and 6.125% Notes (each, as defined and discussed in Note 6- “Borrowings” below) from making distributions on our common stock if our asset coverage, as defined in the 1940 Act, falls below 200%. In any such event, we would be prohibited from making distributions required in order to maintain our status as a RIC.

 

2.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. generally accepted accounting principles (“GAAP”) for interim financial information. Accordingly, they do not include all of the information and footnotes required for annual consolidated financial statements. The unaudited interim consolidated financial statements and notes thereto should be read in conjunction with the financial statements and notes thereto in the Company’s Form 10-K for the year ended December 31, 2017, as filed with the U.S. Securities and Exchange Commission (the “Commission” or the “SEC”).

 

The consolidated financial statements reflect all adjustments, both normal and recurring which, in the opinion of management, are necessary for the fair presentation of the Company’s results of operations and financial condition for the periods presented. Furthermore, the preparation of the consolidated financial statements requires the Company to make significant estimates and assumptions including with respect to the fair value of investments that do not have a readily available market value. Actual results could differ from those estimates, and the differences could be material. The results of operations for the interim periods presented are not necessarily indicative of the operating results to be expected for the full year. Certain prior period amounts have been reclassified to conform to the current year presentation.

 

 26 

 

 

The Company consolidates the financial statements of its wholly-owned special purpose financing subsidiaries KCAP Funding, Kolhberg Capital Funding LLC I, KCAP Senior Funding I, LLC, KCAP Senior Funding I Holdings, LLC and KCAP Funding I, LLC in its consolidated financial statements as they are operated solely for investment activities of the Company. The creditors of KCAP Funding I, LLC received security interests in the assets which owned by KCAP Funding I, LLC and such assets are not intended to be available to the creditors of the Company, or any other affiliate. All of the borrowings of KCAP Funding, Kolhberg Capital Funding LLC I, and KCAP Senior Funding I, LLC have been fully repaid.

 

In accordance with Article 6 of Regulation S-X under the Securities Act of 1933, as amended (the “Securities Act”), and the Securities Exchange Act of 1934, as amended (the “Exchange Act”), the Company does not consolidate portfolio company investments, including those in which it has a controlling interest (e.g., the Asset Manager Affiliates), unless the portfolio company is another investment company.

 

 The Asset Manager Affiliates are subject to Accounting Standards Codification Topic 810, “Consolidation” and although the Company cannot consolidate the financial statements of portfolio company investments, this guidance impacts the Company’s required disclosures relating to the Asset Manager Affiliates. The Asset Manager Affiliates qualify as a “significant subsidiary” and, as a result, the Company is required to include additional financial information regarding the Asset Manager Affiliates in its filings with the SEC. This additional financial information regarding the Asset Manager Affiliates does not directly impact the financial position or results of operations of the Company.

 

In addition, in accordance with Regulation S-X promulgated by the SEC, additional financial information with respect to one of the CLO Funds in which the Company has an investment, Katonah 2007-I CLO Ltd. (“Katonah 2007-I CLO”), is required to be included in the Company’s SEC filings. The additional financial information regarding the Asset Manager Affiliates and Katonah 2007-I CLO is set forth in Note 5 to these consolidated financial statements.

 

The determination of the tax character of distributions is made on an annual (full calendar-year) basis at the end of the year based upon our taxable income for the full year and the distributions paid during the full year. Therefore, an estimate of tax attributes made on a quarterly basis may not be representative of the actual tax attributes of distributions for a full year.

 

It is the Company’s primary investment objective to generate current income and capital appreciation by lending directly to privately-held middle market companies. During the quarter ended September 30, 2018, the Company provided approximately $66.0 million to portfolio companies to support their growth objectives. None of this support was contractually obligated. See also Note 8 – Commitments and Contingencies. As of September 30, 2018, the Company held loans it has made to 47 investee companies with aggregate principal amounts of approximately $150.6 million. The details of such loans have been disclosed on the consolidated schedule of investments as well as in Note 4 – Investments. In addition to providing loans to investee companies, from time to time the Company assists investee companies in securing financing from other sources by introducing such investee companies to sponsors or by, among other things, leading a syndicate of lenders to provide the investee companies with financing. During the nine months ended September 30, 2018, the Company did not engage in any such or similar activities.

 

Recently adopted accounting pronouncements

 

The Financial Accounting Standards Board (the “FASB”) issued Accounting Standards Update 2014-09, Revenue from Contracts with Customers, which updated accounting guidance for all revenue recognition arising from contracts with customers, and also affects entities that enter into contracts to provide goods or services to their customers (unless the contracts are in the scope of other GAAP requirements). This update provides a model for the measurement and recognition of gains and losses on the sale of certain nonfinancial assets, such as property and equipment, including real estate. The FASB also issued ASU 2015-14, Revenue from Contracts with Customers (Topic 606): Deferral of the Effective Date, which deferred the effective date of the standard for one year. As a result, the guidance is effective for public business entities for annual and interim periods in fiscal years beginning after December 15, 2017. Management has concluded that the majority of its revenues associated with the financial instruments are scoped out of ASC 606, and therefore, there was no material impact from adoption.

 

 27 

 

 

Pending accounting pronouncements

 

In March 2017, the FASB issued an Accounting Standards Update, ASU 2017-08, Receivables — Nonrefundable Fees and Other Costs (Subtopic 310-20), Premium Amortization on Purchased Callable Debt Securities (“ASU 2017-08”) which amends the amortization period for certain purchased callable debt securities held at a premium, shortening such period to the earliest call date. ASU 2017-08 does not require any accounting change for debt securities held at a discount; the discount continues to be amortized to maturity. ASU 2017-08 is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2018. At this time, management is evaluating the implications of these changes on the financial statements.

 

In August 2018, the FASB issued Accounting Standards Update 2018-13, Fair Value Measurement (Topic 820): Disclosure Framework—Changes to the Disclosure Requirements for Fair Value Measurement (“ASU 2018-13”)The standard will modify the disclosure requirements for fair value measurements by removing, modifying, or adding certain disclosures. ASU 2018-13 is effective for annual reporting periods beginning after December 15, 2019, including interim periods within that reporting period. Early adoption is permitted upon issuance of this ASU 2018-13. We are permitted to early adopt any removed or modified disclosures upon issuance of ASU 2018-13 and delay adoption of the additional disclosures until their effective date. We are currently evaluating the impact of adopting ASU 2018-13 on our consolidated financial statements.

 

In February 2016, the FASB issued ASU 2016-02, Leases, and several amendments (collectively, “ASU 2016-02”), which requires lessees to recognize assets and liabilities arising from most operating leases on the consolidated statements of financial condition. For operating leases, a lessee is required to do the following: (a) recognize a right-of-use asset and a lease liability, initially measured at the present value of the lease payments, in the statement of financial condition; (b) recognize a single lease cost, calculated so that the cost of the lease is allocated over the lease term on a generally straight-line basis and (c) classify all cash payments within operating activities in the statement of cash flows. The guidance is effective for fiscal periods beginning after December 15, 2018. Early application is permitted. The Company is currently evaluating the impact of this guidance and expects to record assets and liabilities for its current operating leases upon adoption of ASU 2016-02. The Company does not expect the adoption of ASU 2016-02 to have a material impact on its results of operations or cash flows.

 

Investments

 

Investment transactions are recorded on the applicable trade date. Realized gains or losses are determined using the specific identification method.

 

Valuation of Portfolio Investments. The Company’s Board of Directors is ultimately and solely responsible for making a good faith determination of the fair value of portfolio investments on a quarterly basis. Debt and equity securities for which market quotations are readily available are generally valued at such market quotations. Debt and equity securities that are not publicly traded or whose market price is not readily available are valued by the Board of Directors based on detailed analyses prepared by management and, in certain circumstances, third parties with valuation expertise. Valuations are conducted by management on 100% of the investment portfolio at the end of each quarter. The Company follows the provisions of ASC 820: Fair Value Measurements and Disclosures (“ASC 820: Fair Value”). This standard defines fair value, establishes a framework for measuring fair value, and expands disclosures about assets and liabilities measured at fair value. ASC 820: Fair Value defines “fair value” as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date.

 

The Company utilizes an independent valuation firm to provide third party valuation consulting services. Each quarter the independent valuation firm will perform third party valuations of the Company’s investments in material illiquid securities such that they are reviewed at least once during a trailing 12-month period. These third party valuation estimates are considered as one of the relevant data points in the Company’s determination of fair value. The Company intends to continue to engage an independent valuation firm in the future to provide certain valuation services, including the review of certain portfolio assets, as part of the quarterly and annual year-end valuation process.

 

The Board of Directors may consider other methods of valuation than those set forth below to determine the fair value of Level III investments as appropriate in conformity with GAAP. 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 the Company’s investments may differ materially from the values that would have been used had a readily available market existed for such investments. Further, such investments may be generally subject to legal and other restrictions on resale or otherwise be less liquid than publicly traded securities. In addition, changes in the market environment and other events may occur over the life of the investments that may cause the value realized on such investments to be different from the currently assigned valuations.

 

 28 

 

 

The majority of the Company’s investment portfolio is composed of debt and equity securities with unique contract terms and conditions and/or complexity that requires a valuation of each individual investment that considers multiple levels of market and asset specific inputs, which may include historical and forecasted financial and operational performance of the individual investment, projected cash flows, market multiples, comparable market transactions, the priority of the security compared with those of other securities for such issuers, credit risk, interest rates, and independent valuations and reviews.

 

Debt Securities. To the extent that the Company’s investments are exchange traded and are priced or have sufficient price indications from normal course trading at or around the valuation date (financial reporting date), such pricing will be used to determine the fair value of the investments. Valuations from third party pricing services may be used as an indication of fair value, depending on the volume and reliability of the valuation, sufficient and reasonable correlation of bid and ask quotes, and, most importantly, the level of actual trading activity. However, if the Company has been unable to identify directly comparable market indices or other market guidance that correlate directly to the types of investments the Company owns, the Company will determine fair value using alternative methodologies such as available market data, as adjusted, to reflect the types of assets the Company owns, their structure, qualitative and credit attributes and other asset-specific characteristics.

 

The Company derives fair value for its illiquid investments that do not have indicative fair values based upon active trades primarily by using a present value technique that discounts the estimated contractual cash flows for the subject assets with discount rates imputed by broad market indices, bond spreads and yields for comparable issuers relative to the subject assets (the “Income Approach”). The Company also considers, among other things, recent loan amendments or other activity specific to the subject asset. Discount rates applied to estimated contractual cash flows for an underlying asset vary by specific investment, industry, priority and nature of the debt security (such as the seniority or security interest of the debt security) and are assessed relative to two indices, a leveraged loan index and a high-yield bond index, at the valuation date. The Company has identified these two indices as benchmarks for broad market information related to its loan and debt securities. Because the Company has not identified any market index that directly correlates to the loan and debt securities held by the Company and therefore uses these benchmark indices, these market indices may require significant adjustment to better correlate such market data for the calculation of fair value of the investment under the Income Approach. Such adjustments require judgment and may be material to the calculation of fair value. Further adjustments to the discount rate may be applied to reflect other market conditions or the perceived credit risk of the borrower. When broad market indices are used as part of the valuation methodology, their use is subject to adjustment for many factors, including priority, collateral used as security, structure, performance and other quantitative and qualitative attributes of the asset being valued. The resulting present value determination is then weighted along with any quotes from observable transactions and broker/pricing quotes. If such quotes are indicative of actual transactions with reasonable trading volume at or near the valuation date that are not liquidation or distressed sales, relatively more reliance will be put on such quotes to determine fair value. If such quotes are not indicative of market transactions or are insufficient as to volume, reliability, consistency or other relevant factors, such quotes will be compared with other fair value indications and given relatively less weight based on their relevancy. Other significant assumptions, such as coupon and maturity, are asset-specific and are noted for each investment in the Consolidated Schedules of Investments.

 

Equity Securities. The Company’s equity securities in portfolio companies for which there is no liquid public market are carried at fair value based on the enterprise value of the portfolio company, which is determined using various factors, including EBITDA (earnings before interest, taxes, depreciation and amortization) and discounted cash flows from operations, less capital expenditures and other pertinent factors, such as recent offers to purchase a portfolio company’s securities or other liquidation events. The determined fair values are generally discounted to account for restrictions on resale and minority ownership positions. In the event market quotations are readily available for the Company’s equity securities in public companies, those investments may be valued using the Market Approach (as defined below). In cases where the Company receives warrants to purchase equity securities, a market standard Black-Scholes model is utilized.

 

The significant inputs used to determine the fair value of equity securities include prices, EBITDA and cash flows after capital expenditures for similar peer comparables and the investment entity itself. Equity securities are classified as Level III, when there is limited activity or less transparency around inputs to the valuation given the lack of information related to such equity investments held in nonpublic companies. Significant assumptions observed for comparable companies are applied to relevant financial data for the specific investment. Such assumptions, such as model discount rates or price/earnings multiples, vary by the specific investment, equity position and industry and incorporate adjustments for risk premiums, liquidity and company specific attributes. Such adjustments require judgment and may be material to the calculation of fair value.

 

Asset Manager Affiliates. The Company’s investments in its wholly-owned asset management companies, the Asset Manager Affiliates, are carried at fair value, which is primarily determined utilizing the discounted cash flow approach , which incorporates different levels of discount rates depending on the hierarchy of fees earned (including the likelihood of realization of senior, subordinate and incentive fees) and prospective modeled performance. Such valuation takes into consideration an analysis of comparable asset management companies and the amount of assets under management. The Asset Manager Affiliates are classified as a Level III investment. Any change in value from period to period is recognized as net change in unrealized appreciation or depreciation.

 

 29 

 

 

CLO Fund Securities. The Company typically makes a minority investment in the most junior class of securities of CLO Funds raised and managed by the Asset Manager Affiliates and may selectively invest in securities issued by funds managed by other asset management companies. The investments held by CLO Funds generally relate to non-investment grade credit instruments issued by corporations.

 

The Company’s investments in CLO Fund Securities are carried at fair value, which is based either on (i) the present value of the net expected cash inflows for interest income and principal repayments from underlying assets and cash outflows for interest expense, debt pay-down and other fund costs for the CLO Funds that are approaching or past the end of their reinvestment period and therefore are selling assets and/or using principal repayments to pay down CLO Fund debt (or will begin to do so shortly), and for which there continue to be net cash distributions to the class of securities owned by the Company, a Discounted Cash Flow approach, (ii) a discounted cash flow model that utilizes prepayment and loss assumptions based on historical experience and projected performance, economic factors, the characteristics of the underlying cash flow and comparable yields for similar securities or preferred shares to those in which the Company has invested, or (iii) indicative prices provided by the underwriters or brokers who arrange CLO Funds, a Market Approach. The Company recognizes unrealized appreciation or depreciation on the Company’s investments in CLO Fund Securities as comparable yields in the market change and/or based on changes in net asset values or estimated cash flows resulting from changes in prepayment or loss assumptions in the underlying collateral pool. As each investment in CLO Fund Securities ages, the expected amount of losses and the expected timing of recognition of such losses in the underlying collateral pool are updated and the revised cash flows are used in determining the fair value of the CLO Fund investment. The Company determines the fair value of its investments in CLO Fund Securities on a security-by-security basis.

 

Due to the individual attributes of each CLO Fund Security, they are classified as a Level III investment unless specific trading activity can be identified at or near the valuation date. When available, observable market information will be identified, evaluated and weighted accordingly in the application of such data to the present value models and fair value determination. Significant assumptions to the present value calculations include default rates, recovery rates, prepayment rates, investment/reinvestment rates and spreads and the discount rate by which to value the resulting underlying cash flows. Such assumptions can vary significantly, depending on market data sources which often vary in depth and level of analysis, understanding of the CLO market, detailed or broad characterization of the CLO market and the application of such data to an appropriate framework for analysis. The application of data points are based on the specific attributes of each individual CLO Fund Security’s underlying assets, historic, current and prospective performance, vintage, and other quantitative and qualitative factors that would be evaluated by market participants. The Company evaluates the source of market data for reliability as an indicative market input, consistency amongst other inputs and results and also the context in which such data is presented.

 

For rated note tranches of CLO Fund Securities (those above the junior class) without transactions to support a fair value for the specific CLO Fund and tranche, fair value is based on discounting estimated bond payments at current market yields, which may reflect the adjusted yield on the leveraged loan index for similarly rated tranches, as well as prices for similar tranches for other CLO Funds and also other factors such as indicative prices provided by underwriters or brokers who arrange CLO Funds, and the default and recovery rates of underlying assets in the CLO Fund, as may be applicable. Such model assumptions may vary and incorporate adjustments for risk premiums and CLO Fund specific attributes.

 

Joint Venture. The Company carries investments in joint ventures at fair value based upon the fair value of the investments held by the joint venture. See Note 4 below, for more information regarding the Joint Venture.

 

Cash. The Company defines cash as demand deposits. The Company places its cash with financial institutions and, at times, cash held in checking accounts may exceed the Federal Deposit Insurance Corporation insured limit.

 

Restricted Cash. Restricted cash and cash equivalents (e.g. money market funds) consists of cash held for reinvestment and quarterly interest and principal distribution (if any) to holders of notes issued by KCAP Funding I, LLC and/or KCAP Senior Funding I, LLC.

 

Short-term investments. Short-term investments are generally comprised of money market accounts, time deposits, and U.S. treasury bills.

 

Interest Income. Interest income, including the amortization of premium and accretion of discount and accrual of payment-in-kind (“PIK”) interest, is recorded on the accrual basis to the extent that such amounts are expected to be collected. The Company generally places a loan or security on non-accrual status and ceases recognizing interest income on such loan or security when a loan or security becomes 90 days or more past due or if the Company otherwise does not expect the debtor to be able to service its debt obligations. For investments with PIK interest, which represents contractual interest accrued and added to the principal balance that generally becomes due at maturity, we will not accrue PIK interest if the portfolio company valuation indicates that the PIK interest is not collectible (i.e. via a partial or full non-accrual). Loans which are on partial or full non-accrual remain in such status until the borrower has demonstrated the ability and intent to pay contractual amounts due or such loans become current. As of September 30, 2018, one of our investments was on non-accrual status, and three of our investments were on partial non-accrual status, whereby we have recognized income on a portion of contractual PIK amounts due.

 

 30 

 

 

Distributions from Asset Manager Affiliates. The Company records distributions from our Asset Manager Affiliates on the declaration date, which represents the ex-dividend date. Distributions in excess of tax-basis earnings and profits of the distributing affiliate company are recognized as tax-basis return of capital. For interim periods, the Company estimates the tax attributes of any distributions as being either tax-basis earnings and profits (i.e., dividend income) or return of capital (i.e., adjustment to the Company’s cost basis in the Asset Manager Affiliates). The final determination of the tax attributes of distributions from our Asset Manager Affiliates is made on an annual (full calendar year) basis at the end of the year based upon taxable income and distributions for the full-year. Therefore, any estimate of tax attributes of distributions made on a quarterly basis may not be representative of the actual tax attributes of distributions for a full-year.

 

Investment Income on CLO Fund Securities. The Company generates investment income from its investments in the most junior class of securities of CLO Funds (typically preferred shares or subordinated securities) managed by the Asset Manager Affiliates and select investments in securities issued by funds managed by other asset management companies. The Company’s CLO Fund junior class securities are subordinated to senior note holders who typically receive a stated interest rate of return based on a floating rate index, such as the London Interbank Offered Rate (“LIBOR”) on their investment. The CLO Funds are leveraged funds and any excess cash flow or “excess spread” (interest earned by the underlying securities in the fund less payments made to senior note holders and less fund expenses and management fees) is paid to the holders of the CLO Fund’s subordinated securities or preferred shares.

 

GAAP-basis investment income on CLO equity investments is recorded using the effective interest method in accordance with the provisions of ASC 325-40, based on the anticipated yield and the estimated cash flows over the projected life of the investment. Yields are revised when there are changes in actual or estimated projected future cash flows due to changes in prepayments and/or re-investments, credit losses or asset pricing. Changes in estimated yield are recognized as an adjustment to the estimated yield prospectively over the remaining life of the investment from the date the estimated yield was changed. Accordingly, investment income recognized on CLO equity securities in the GAAP statement of operations differs from both the tax–basis investment income and from the cash distributions actually received by the Company during the period.

 

For non-junior class CLO Fund Securities, such as the Company’s investment in the Class E Notes of the KCAP F3C Senior Funding, LLC, interest is earned at a fixed spread relative to the LIBOR index.

 

Investment in Joint Venture. For the three months and nine months ended September 30, 2018, the Company recognized $750,000 and $2.2 million in investment income from its investment in the Joint Venture. As of September 30, 2018 and December 31, 2017, the fair value of the Company’s investment in the Joint Venture was approximately $21.4 and $21.5 million, respectively. For interim periods, the Company recognizes investment income on its investment in the Joint Venture based upon its share of the estimated tax-basis earnings and profits of the Joint Venture. Any distributions in excess of tax-basis earnings and profits are recognized as a return of capital (adjustment to the Company’s cost basis in the investment). The final determination of the tax attributes of distributions from the Joint Venture is made on an annual (full calendar year) basis at year-end based upon taxable income and distributions for the full year. Therefore, any estimate of tax attributes of distributions made on an interim basis may not be representative of the actual tax attributes of distributions for the full year.

 

Capital Structuring Service Fees. The Company may earn ancillary structuring and other fees related to the origination, investment, disposition or liquidation of debt and investment securities. Generally, the Company will capitalize loan origination fees, then amortize these fees into interest income over the term of the loan using the effective interest rate method, recognize prepayment and liquidation fees upon receipt and equity structuring fees as earned, which generally occurs when an investment transaction closes.

 

Debt Issuance Costs. Debt issuance costs represent fees and other direct costs incurred in connection with the Company’s borrowings. These amounts are capitalized and amortized using the effective interest method over the expected term of the borrowing.

 

Extinguishment of debt. The Company must derecognize a liability if and only if it has been extinguished through delivery of cash, delivery of other financial assets, delivery of goods or services, or reacquisition by the Company of its outstanding debt securities whether the securities are cancelled or held. If the debt contains a cash conversion option, the Company must allocate the consideration transferred and transaction costs incurred to the extinguishment of the liability component and the reacquisition of the equity component and recognize a gain or loss in the statement of operations.

 

 31 

 

 

Expenses. The Company is internally managed and expenses costs, as incurred, with regard to the running of its operations. Primary operating expenses include employee salaries and benefits, the costs of identifying, evaluating, negotiating, closing, monitoring and servicing the Company’s investments and related overhead charges and expenses, including rental expense, and any interest expense incurred in connection with borrowings. The Company and the Asset Manager Affiliates share office space and certain other operating expenses. The Company has entered into an Overhead Allocation Agreement with the Asset Manager Affiliates which provides for the sharing of such expenses based on an allocation of office lease costs and the ratable usage of other shared resources.

 

Shareholder Distributions. Distributions to common stockholders are recorded on the ex-dividend date. The amount of distributions, if any, is determined by the Board of Directors each quarter.

 

The Company has adopted a dividend reinvestment plan (the “DRIP”) that provides for reinvestment of its distributions on behalf of its stockholders, unless a stockholder “opts out” of the DRIP to receive cash in lieu of having their cash distributions automatically reinvested in additional shares of the Company’s common stock.

 

3.EARNINGS (LOSSES) PER SHARE

 

In accordance with the provisions of ASC 260, “Earnings per Share” (“ASC 260”), basic earnings per share is computed by dividing earnings available to common shareholders by the weighted average number of shares outstanding during the period. Other potentially dilutive common shares, and the related impact to earnings, are considered when calculating earnings per share on a diluted basis.

 

The following information sets forth the computation of basic and diluted net increase (decrease) in stockholders’ equity per share for the three and nine months ended September 30, 2018 and 2017:

 

   (unaudited)   (unaudited) 
   Three Months Ended September 30,   Nine Months Ended September 30, 
   2018   2017   2018   2017 
                 
Net increase (decrease) in net assets resulting from operations  $1,348,849   $(669,449)  $2,646,472   $2,237,830 
Net (increase) decrease in net assets allocated to unvested share awards   (10,133)   3,260    (17,606)   (18,094)
                     
Net increase (decrease) in net assets available to common stockholders  $1,338,716   $(666,189)  $2,628,866   $2,219,736 
                     
Weighted average number of common and common stock equivalent shares outstanding for diluted shares computation   37,349,904    37,196,621    37,354,449    37,202,011 
                     
Net increase (decrease) in net assets per basic common shares:                    
Net increase (decrease) in net assets from operations  $0.04   $(0.02)  $0.07   $0.06 
Net increase (decrease) in net assets per diluted shares:                    
Net increase (decrease) in net assets from operations  $0.04   $(0.02)  $0.07   $0.06 

 

Share-based awards that contain non-forfeitable rights to dividends or dividend equivalents, whether paid or unpaid, are participating securities and included in the computation of both basic and diluted earnings per share. Grants of restricted stock awards to the Company’s employees and directors are considered participating securities when there are earnings in the period and the earnings per share calculations include outstanding unvested restricted stock awards in the basic weighted average shares outstanding calculation.

 

There were 30,000 options to purchase shares of common stock considered for the computation of the diluted per share information for the three and nine months ended September 30, 2018. There were 50,000 options to purchase shares of common stock considered for the computation of the diluted per share information for the three and nine months ended September 30, 2017. Since the effects are anti-dilutive for both periods, the options were not included in the computation.

 

 32 

 

 

4.INVESTMENTS

 

The following table shows the Company’s portfolio by security type at September 30, 2018 and December 31, 2017:

 

   September 30, 2018 (unaudited)   December 31, 2017 
Security Type 

Cost/Amortized

Cost

   Fair Value     

Cost/Amortized

Cost

   Fair Value    
Short-term investments²  $24,431,512   $24,431,512    9   $77,300,320   $77,300,320    26 
Senior Secured Loan   66,465,014    62,292,360    23    48,337,900    44,960,146    14 
Junior Secured Loan   76,396,298    71,229,383    26    62,561,913    58,941,300    19 
Senior Unsecured Loan   6,277,283    6,277,283    2    12,777,283    12,777,283    4 
Senior Secured Bond           -    1,502,374    1,518,750    - 
CLO Fund Securities   68,769,245    47,983,931    18    72,339,032    51,678,673    17 
Equity Securities   10,571,007    4,079,336    1    10,571,007    4,414,684    1 
Asset Manager Affiliates³   51,591,230    35,818,000    13    52,591,230    38,849,000    12 
Joint Venture   24,914,858    21,373,570    8    24,914,858    21,516,000    7 
Total  $329,416,447   $273,485,375    100%  $362,895,917   $311,956,156    100%

 

 
¹Represents percentage of total portfolio at fair value.
²Includes money market accounts and U.S. treasury bills.
³Represents the equity investment in the Asset Manager Affiliates.

 

 33 

 

 

The industry concentrations based on the fair value of the Company’s investment portfolio as of September 30, 2018 and December 31, 2017, were as follows:

 

   September 30, 2018 (unaudited)   December 31, 2017 
Industry Classification 

Cost/Amortized

Cost

   Fair Value   %1  

Cost/Amortized

Cost

   Fair Value   % 
Aerospace and Defense  $5,394,947   $5,217,569    2%  $5,636,056   $4,115,487    1%
Asset Management Company 2   51,591,230    35,818,000    13    52,591,230    38,849,000    12 
Banking, Finance, Insurance & Real Estate   4,441,289    4,399,103    1    4,458,962    4,418,391    1 
Beverage, Food and Tobacco   5,970,854    5,888,896    2    7,496,438    7,435,050    2 
Capital Equipment   9,420,537    8,574,662    3    5,454,621    4,680,821    2 
Chemicals, Plastics and Rubber   9,513,138    9,487,169    3             
CLO Fund Securities   68,769,245    47,983,931    18    72,339,032    51,678,673    17 
Construction & Building   1,404,511    1,397,347    1    1,004,093    999,872    - 
Consumer goods: Durable   1,137,491    396,355        1,071,340    805,607    - 
Consumer goods: Non-durable   1,593,869    1,593,061    1    691,234    694,662    - 
Energy: Oil & Gas   17,700,944    12,281,830    4    14,932,542    11,433,777    4 
Environmental Industries   8,405,778    7,228,048    3    6,330,630    5,766,437    2 
Forest Products & Paper   1,563,068    1,600,960    1    1,558,556    1,600,960    1 
Healthcare & Pharmaceuticals   41,181,476    35,770,898    13    30,367,449    25,512,654    8 
High Tech Industries   13,072,205    13,054,861    5    18,229,229    18,260,577    6 
Hotel, Gaming & Leisure   400,000    1,000        400,000    1,000    - 
Joint Venture   24,914,858    21,373,570    8    24,914,858    21,516,000    7 
Media: Advertising, Printing & Publishing   3,239,996    2,911,195    1    3,371,086    3,318,296    1 
Related Party Loans   6,277,283    6,277,283    2    12,777,283    12,777,283    4 
Services: Business   8,409,271    7,220,573    3    3,563,574    2,366,400    1 
Telecommunications   6,444,211    6,437,973    2    6,455,489    6,466,949    2 
Textiles and Leather   10,138,033    10,139,179    4    7,950,994    7,947,940    3 
Money Market Accounts   24,431,512    24,431,512    9    52,293,570    52,293,570    17 
Transportation: Cargo   4,000,701    4,000,400    1    4,000,901    4,010,000    1 
U.S. Government Obligations               25,006,750    25,006,750    8 
Total  $329,416,447   $273,485,375    100%  $362,895,917   $311,956,156    100%

 

 

1Calculated as a percentage of total portfolio at fair value.
2Represents the equity investment in the Asset Manager Affiliates.

 

The Company may invest up to 30% of its investment portfolio in “non-qualifying” opportunistic investments, including investments in debt and equity securities of CLO Funds, distressed debt or debt and equity securities of large cap public companies. Within this 30% of the portfolio, the Company also may invest in debt of middle market companies located outside of the United States.

 

At September 30, 2018 and December 31, 2017, the total amount of non-qualifying assets was approximately 26% and 23% of total assets, respectively. The majority of non-qualifying assets were foreign investments which were approximately 18% and 16%, respectively, of the Company’s total assets (including the Company’s investments in CLO Funds, which are typically domiciled outside the U.S. and represented approximately 17% and 16% of its total assets on such dates, respectively).

 

 34 

 

 

Investments in CLO Fund Securities

 

The Company typically makes a minority investment in the most junior class of securities (typically preferred shares or subordinated securities) of CLO Funds managed by the Asset Manager Affiliates and may selectively invest in securities issued by CLO funds managed by other asset management companies. These securities also are entitled to recurring distributions which generally equal the net remaining cash flow of the payments made by the underlying CLO Fund’s securities less contractual payments to senior bond holders, management fees and CLO Fund expenses. CLO Funds invest primarily in broadly syndicated non-investment grade loans, high-yield bonds and other credit instruments of corporate issuers. The underlying assets in each of the CLO Funds in which the Company has an investment are generally diversified secured or unsecured corporate debt. The CLO Funds are leveraged funds and any excess cash flow or “excess spread” (interest earned by the underlying securities in the fund less payments made to senior bond holders, fund expenses and management fees) is paid to the holders of the CLO Fund’s subordinated securities or preferred shares.

 

On February 29, 2016, Katonah X CLO Ltd. was fully liquidated and all of its outstanding obligations were satisfied. The Company received approximately $1.0 million in connection therewith related to its investment in the subordinated securities issued by Katonah X CLO Ltd. Accordingly, the Company recorded a realized loss during the first quarter of 2016 of approximately $6.6 million on its investment in Katonah X CLO Ltd. and a corresponding unrealized gain of the same amount in order to reverse the approximately $6.6 million of previously recorded unrealized depreciation with respect to the investment.

 

In June 2016, the Company sold $7.0 million par value of the Subordinated Notes of Catamaran 2015-1 for $4.2 million.

 

In December 2016, the Company purchased $10.1 million of the par value of the Subordinated Notes of Catamaran 2016-1 CLO (“Catamaran 2016-1”) managed by Trimaran Advisors.

 

On October 31, 2017, the Company purchased an additional $4.3 million of notional amount of Subordinated Notes issued by Catamaran CLO 2014-1 at a cost of $5.4 million.

 

In December 2017, the Company purchased an additional $201,000 of notional amount of Subordinated Notes issued by Catamaran CLO 2013-1 at a cost of $201,000.

 

In December 2017, the Company sold $5.0 million par value of the Subordinated Notes of Catamaran CLO 2014-1 for $3.0 million.

 

In January 2018, the trustees of Catamaran CLO 2012-1, Ltd received notice that the holders of a majority of the income notes issued by Catamaran CLO 2012-1, Ltd had exercised their right of optional redemption.

 

In September 2018, the Company purchased $10 million par value of the Subordinated Notes of Catamaran CLO 2018-1 at a cost of $9.5 million.

 

On December 19, 2017, the Company, in its capacity as the holder of all of the outstanding preferred shares of Katonah 2007-1, exercised its right to cause Katonah 2007-1 to redeem all of its outstanding indebtedness through the sale of its investments and otherwise wind up its business. As of September 30, 2018, Katonah 2007-1 had paid off all of its outstanding indebtedness and had approximately $319,000 in total assets. It is expected that Katonah 2007-1 will be fully liquidated and dissolved in 2018. The Company received approximately $10.5 million on its investment in Katonah 2007-1 during the first quarter of 2018 in connection with the continuing liquidation of Katonah 2007-1. The Company expects to record a realized loss during 2018 of approximately $10 million on its investment in Katonah 2007-1 and a corresponding unrealized gain of the same amount in order to reverse the previously recorded unrealized depreciation with respect to the investment.

 

Except for Katonah 2007-1 CLO Ltd, (“Katonah 2007-1”), Trimaran VII CLO Ltd, and Catamaran 2012-1 CLO, Ltd, all of which have been called, CLO Funds managed by the Asset Manager Affiliates are currently making quarterly distributions to the Company with respect to its interests in the CLO Funds and are paying all senior and subordinate management fees to the Asset Manager Affiliates. With the exception of Katonah III, Ltd. and Grant Grove CLO, Ltd. (both of which have been called), the remaining third-party managed CLO Fund is making distributions to the Company.

 

 35 

 

 

Affiliate Investments

 

The following table details investments in affiliates at September 30, 2018 (unaudited) and December 31, 2017:

 

   Industry Classification 

Fair Value at

of December

31, 2017

  

Purchases/

(Sales) of or

Advances/

(Distributions)

  

Net

Accretion

  

Unrealized

Gain/(Loss)

  

Realized

Gain/(Loss)

  

Fair Value at of

September 30,

2018

(unaudited)

  

Interest

Income

  

Dividend

Income

 
                                    
Asset Manager Affiliates(4)(5)(6)   Asset Management Company  $38,849,000   $(1,000,000)   -    (2,031,000)  $-   $35,818,000       $920,000 
Trimaran Advisors, LLC Revolving Credit Facility(4)(5)(6)   Related Party Loans   -    -    -    -    -    -    1,151,339    - 
Trimaran Advisors, LLC Related Party Loan (4)(5)(6)   Related Party Loans   8,359,051    (2,081,769)   -    -    -    6,277,282    621,761      
Trimaran Advisors, LLC Related Party Loan (4)(5)(6)   Related Party Loans   4,418,232    (4,418,232)   -    -    -    -    229,380      
Katonah 2007-I CLO, Ltd. (1)(2)(3)(4)   CLO Fund Securities   10,770,486    (10,487,425)   271,657    (404,718)   -    150,000    271,658    - 
Trimaran CLO VII, Ltd. (1)(2)(3)(4)   CLO Fund Securities   10,000    -    -    -    -    10,000    -    - 
Catamaran CLO 2012-1, Ltd. (1)(2)(3)(4)   CLO Fund Securities   2,320,783    (2,578,480)   264,748    2,949    -    10,000    264,748    - 
Catamaran CLO 2013-1, Ltd. (1)(2)(4)   CLO Fund Securities   6,923,699    (982,527)   941,526    (810,647)   -    6,072,051    941,526    - 
Catamaran CLO 2014-1, Ltd. (1)(2)(4)   CLO Fund Securities   8,230,178    (1,006,933)   1,012,363    1,474,091    -    9,709,699    1,012,363    - 
Catamaran CLO 2014-2, Ltd. (1)(2)(4)   CLO Fund Securities   4,500,962    (762,433)   491,759    32,671    -    4,262,959    491,759    - 
Catamaran CLO 2015-1, Ltd. (1)(2)(4)   CLO Fund Securities   3,569,600    (386,595)   382,338    (73,153)   -    3,492,190    382,338    - 
Catamaran CLO 2016-1, Ltd. (1)(2)(4)   CLO Fund Securities   8,530,685    (939,746)   688,390    (146,603)   -    8,132,726    688,391    - 
Catamaran CLO 2018-1, Ltd. (1)(2)(4)   CLO Fund Securities   -    9,500,000    -    (500,000)   -    9,000,000         - 
KCAP F3C Senior Funding Rated Notes(2)(4)   CLO Fund Securities   4,632,000    -    27,897    31,536    -    4,691,433    375,252      
KCAP Freedom 3, LLC (4)(6)   Joint Venture   21,516,000    -    -    (142,430)   -    21,373,570    -    2,150,000 
                                            
Total Affiliated Investments     $122,630,676   $(15,144,140)  $4,080,678   $(2,567,304)  $-   $108,999,910   $6,430,515   $3,070,000 

 

   Industry Classification 

Fair Value at

December 31,

2016

  

Purchases/

(Sales) of or

Advances/

(Distributions)

  

Net

Accretion

  

Unrealized

Gain/(Loss)

  

Realized

Gain/(Loss)

  

Fair Value at of

December 31,

2017

  

Interest

Income

  

Dividend

Income

 
                                    
Asset Manager Affiliates(4)(5)(6)   Asset Management Company  $40,198,000   $(2,750,000)  $-   $1,401,000   $-   $38,849,000   $-   $460,000 
Trimaran Advisors, LLC Revolving Credit Facility(4)(5)(6)   Related Party Loans   -    -    -    -    -    -    916,765    - 
Trimaran Advisors, LLC Related Party Loan (4)(5)(6)   Related Party Loans   -    8,359,051                   8,359,051    148,721      
Trimaran Advisors, LLC Related Party Loan (4)(5)(6)   Related Party Loans   -    4,418,232                   4,418,232    16,752      
Katonah 2007-I CLO, Ltd. (1)(2)(3)(4)   CLO Fund Securities   20,453,099    (13,157,760)   5,660,026    (2,184,878)   -    10,770,486    5,660,026    - 
Trimaran CLO VII, Ltd. (1)(2)(3)(4)   CLO Fund Securities   1,195,152    (1,264,090)   -    78,938    -    10,000    -    - 
Catamaran CLO 2012-1, Ltd. (1)(2)(4)   CLO Fund Securities   2,819,412    (771,743)   699,611    (426,497)   -    2,320,783    699,611    - 
Catamaran CLO 2013-1, Ltd. (1)(2)(4)   CLO Fund Securities   4,918,807    (1,054,362)   834,448    2,224,807    -    6,923,699    834,448    - 
Catamaran CLO 2014-1, Ltd. (1)(2)(4)   CLO Fund Securities   4,546,682    2,319,047    1,079,850    1,643,907    (1,359,309)   8,230,178    1,079,850    - 
Catamaran CLO 2014-2, Ltd. (1)(2)(4)   CLO Fund Securities   5,092,087    (1,130,813)   806,058    (266,370)   -    4,500,962    806,058    - 
Catamaran CLO 2015-1, Ltd. (1)(2)(4)   CLO Fund Securities   3,223,255    (571,562)   446,893    471,017    -    3,569,600    446,893    - 
Catamaran CLO 2016-1, Ltd. (1)(2)(4)   CLO Fund Securities   8,350,290    (1,146,242)   1,093,043    233,593    -    8,530,685    1,093,043    - 
CRMN 2014-1A (1)(2)(4)   CLO Fund Securities   1,310,000    (1,545,506)   9,259    131,727    94,520    -    97,885    - 
KCAP F3C Senior Funding Rated Notes(2)(4)   CLO Fund Securities   -    4,346,290    89,676    196,035         4,632,000    89,676      
KCAP Freedom 3, LLC (4)(6)   Joint Venture   -    24,914,858    -    (3,398,858)   -    21,516,000    -    949,037 
                                            
Total Affiliated Investments     $92,106,784   $20,965,400   $10,718,864   $104,421   $(1,264,789)  $122,630,676   $11,889,728   $1,409,037 

 

 

1Non-U.S. company or principal place of business outside the U.S.
2An affiliate CLO Fund managed by an Asset Manager Affiliate (as such term is defined in the notes to the consolidated financial statements).
3Notice of redemption has been received for this security.
4Fair value of this investment was determined using significant unobservable inputs.
5Qualified asset for purposes of section 55(a) of the 1940 Act.
6As defined in the 1940 Act, the Company is deemed to be both an “Affiliated Person” and has “Control” of this portfolio company as the Company owns more than 25% of the portfolio company’s outstanding voting securities or has the power to exercise control over management or policies of such portfolio company (including through a management agreement). Other than for purposes of the 1940 Act, the Company does not believe that it has control over this portfolio company.

 

Investment in Joint Venture

 

During the third quarter of 2017, the Company and Freedom 3 Opportunities LLC (“Freedom 3 Opportunities”), an affiliate of Freedom 3 Capital LLC, entered into an agreement to create KCAP Freedom 3 LLC (the “Joint Venture”). The Company and Freedom 3 Opportunities contributed approximately $37 million and $25 million, respectively, in assets to the Joint Venture, which in turn used the assets to capitalize a new fund, KCAP F3C Senior Funding, L.L.C. (the “Fund”) managed by KCAP Management, LLC, one of the Asset Manager Affiliates. In addition, the Fund used cash on hand and borrowings under a credit facility to purchase approximately $184 million of loans from the Company and the Company used the proceeds from such sale to redeem approximately $147 million in debt issued by KCAP Senior Funding I, LLC (“KCAP Senior Funding”). The Joint Venture may originate loans from time to time and sell them to the Fund.

 

 36 

 

 

During the fourth quarter of 2017, the Fund was refinanced through the issuance of senior and subordinated notes. The Joint Venture purchased 100% of the subordinated notes issued by the Fund. In connection with the refinancing, the Joint Venture made a cash distribution to the Company of approximately $12.6 million. Approximately $11.2 million of this distribution was a reduction in the cost basis of the Company’s investment in the Joint Venture. The final determination of the tax attributes of distributions from the Joint Venture is made on an annual (full calendar year) basis at the end of the year, therefore, any estimate of tax attributes of distributions made on an interim basis may not be representative of the actual tax attributes of distributions for the full year.

 

The Company owns a 60% equity investment in the Joint Venture. The Joint Venture is structured as an unconsolidated Delaware limited liability company. All portfolio and other material decisions regarding the Joint Venture must be submitted to its board of managers, which is comprised of four members, two of whom were selected by the Company and two of whom were selected by Freedom 3 Opportunities, and must be approved by at least one member appointed by the Company and one appointed by Freedom 3 Opportunities. In addition, certain matters may be approved by the Joint Venture’s investment committee, which is comprised of one member appointed by the Company and one member appointed by Freedom 3 Opportunities.

 

The Company has determined that the Joint Venture is an investment company under Accounting Standards Codification (“ASC”), Financial Services — Investment Companies (“ASC 946”), however, in accordance with such guidance, the Company will generally not consolidate its investment in a company other than a wholly owned investment company subsidiary or a controlled operating company whose business consists of providing services to the Company. The Company does not consolidate its interest in the Joint Venture because the Company does not control the Joint Venture due to allocation of the voting rights among the Joint Venture partners.

 

 37 

 

 

KCAP Freedom 3 LLC

 

Summarized Statement of Financial Condition

 

   As of
September 30, 2018
(unaudited)
   As of
December 31, 2017
 
Cash  $-   $1,717 
Investment at fair value   37,861,178    37,080,000 
Total Assets  $37,861,178   $37,081,717 
           
Total Liabilities  $2,238,561   $1,221,916 
Total Equity   35,622,617    35,859,801 
Total Liabilities and Equity  $37,861,178   $37,081,717 

 

KCAP Freedom 3 LLC

Summarized Statement of Operations

(unaudited)

 

   For the three
months ended
September 30, 2018
   For the three
months ended
September 30,
2017
   For the nine
months ended
September 30,
2018
   For the nine
months ended
September 30,
2017
 
Investment income  $1,148,571   $1,026,962   $3,566,385   $1,026,962 
Operating expenses   56,512    10,000    110,273    10,000 
Net investment income   1,092,059    1,016,962    3,456,112    1,016,962 
Unrealized appreciation (depreciation) on investments   529,662    79,258    (35,274)   79,258 
Net income  $1,621,721   $1,096,220   $3,420,838   $1,096,220 

 

 38 

 

 

KCAP Freedom 3 LLC

Schedule of Investments

September 30, 2018

(unaudited)

 

Portfolio Company    Investment    Percentage
Ownership
by Joint
Venture
   Amortized Cost   Fair Value 
KCAP F3C Senior Funding, LLC(1)(2)  Subordinated Securities, effective interest 10.7%, 12/29 maturity     100.0%  $42,959,706   $37,861,178 
                   
Total Investments          $42,959,706   $37,861,178 

 

(1) CLO Subordinated Investments are entitled to periodic distributions which are generally equal to the remaining cash flow of the payments made by the underlying fund’s investments less contractual payments to debt holders and fund expenses. The estimated annualized effective yield indicated is based upon a current projection of the amount and timing of these distributions. Such projections are updated on a quarterly basis and the estimated effective yield is adjusted prospectively.

(2) Fair value of this investment was determined using significant unobservable inputs, including default rates, prepayment rates, spreads, and the discount rate by which to value the resulting cash flows.

 

Schedule of Investments

December 31, 2017

 

Portfolio Company    Investment    Percentage
Ownership
by Joint
Venture
   Amortized Cost   Fair Value 
KCAP F3C Senior Funding, LLC(1)(2)  Subordinated Securities, effective interest 12.1%, 12/29 maturity     100.0%  $42,143,254   $37,080,000 
                   
Total Investments          $42,143,254   $37,080,000 

 

(1) CLO Subordinated Investments are entitled to periodic distributions which are generally equal to the remaining cash flow of the payments made by the underlying fund’s investments less contractual payments to debt holders and fund expenses. The estimated annualized effective yield indicated is based upon a current projection of the amount and timing of these distributions. Such projections are updated on a quarterly basis and the estimated effective yield is adjusted prospectively.

(2) Fair value of this investment was determined using significant unobservable inputs, including a third party broker quote.

 

Fair Value Measurements

 

The Company follows the provisions of ASC 820: Fair Value, which among other matters, requires enhanced disclosures about investments that are measured and reported at fair value. This standard defines fair value and establishes a hierarchal disclosure framework which prioritizes and ranks the level of market price observability used in measuring investments at fair value and expands disclosures about assets and liabilities measured at fair value. ASC 820: Fair Value defines “fair value” as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. This fair value definition focuses on an exit price in the principal, or most advantageous market, and prioritizes, within a measurement of fair value, the use of market-based inputs (which may be weighted or adjusted for relevance, reliability and specific attributes relative to the subject investment) over entity-specific inputs. Market price observability is affected by a number of factors, including the type of investment and the characteristics specific to the investment. Investments with readily available active quoted prices or for which fair value can be measured from actively quoted prices generally will have a higher degree of market price observability and a lesser degree of judgment used in measuring fair value.

 

 39 

 

 

ASC 820: Fair Value establishes the following three-level hierarchy, based upon the transparency of inputs to the fair value measurement of an asset or liability as of the measurement date:

 

Level I – Unadjusted quoted prices are available in active markets for identical investments as of the reporting date. The type of investments included in Level I include listed equities and listed securities. As required by ASC 820: Fair Value, the Company does not adjust the quoted price for these investments, even in situations where the Company holds a large position and a sale could reasonably affect the quoted price.

 

Level II – Pricing inputs are other than quoted prices in active markets, which are either directly or indirectly observable as of the reporting date. Such inputs may be quoted prices for similar assets or liabilities, quoted markets that are not active, or other inputs that are observable or can be corroborated by observable market data for substantially the full character of the financial instrument, or inputs that are derived principally from, or corroborated by, observable market information. Investments which are generally included in this category include illiquid debt securities and less liquid, privately held or restricted equity securities for which some level of recent trading activity has been observed.

 

Level III – Pricing inputs are unobservable for the investment and includes situations where there is little, if any, market activity for the investment. The inputs may be based on the Company’s own assumptions about how market participants would price the asset or liability or may use Level II inputs, as adjusted, to reflect specific investment attributes relative to a broader market assumption. These inputs into the determination of fair value may require significant management judgment or estimation. Even if observable market data for comparable performance or valuation measures (earnings multiples, discount rates, other financial/valuation ratios, etc.) are available, such investments are grouped as Level III if any significant data point that is not also market observable (private company earnings, cash flows, etc.) is used in the valuation methodology.

 

In certain cases, the inputs used to measure fair value may fall into different levels of the fair value hierarchy. In such cases, an investment’s level within the fair value hierarchy is based on the lowest level of input that is significant to the fair value measurement. The Company’s assessment of the significance of a particular input to the fair value measurement in its entirety requires judgment, and the Company considers factors specific to the investment. A majority of the Company’s investments are classified as Level III. The Company evaluates the source of inputs, including any markets in which its investments are trading, in determining fair value. Inputs that are highly correlated to the specific investment being valued and those derived from reliable or knowledgeable sources will tend to have a higher weighting in determining fair value. The Company’s fair value determinations may include factors such as an assessment of each underlying investment, its current and prospective operating and financial performance, consideration of financing and sale transactions with third parties, expected cash flows and market-based information, including comparable transactions, performance factors, and other investment or industry specific market data, among other factors.

 

 40 

 

 

The following table summarizes the fair value of investments by the above ASC 820: Fair Value hierarchy levels as of September 30, 2018 (unaudited) and December 31, 2017, respectively:

 

   As of September 30, 2018 (unaudited) 
   Level I   Level II   Level III   Total 
Short Term investments  $   $24,431,512   $   $24,431,512 
Debt securities       28,572,507    111,226,520    139,799,027 
CLO Fund Securities           47,983,931    47,983,931 
Equity securities       1,142,283    2,937,053    4,079,336 
Asset Manager Affiliates           35,818,000    35,818,000 
Joint Venture           21,373,570    21,373,570 
Total  $   $54,146,302   $219,339,074   $273,485,376 

 

   As of December 31, 2017 
   Level I   Level II   Level III   Total 
Short Term investments  $25,006,750   $52,293,570   $   $77,300,320 
Debt securities       48,312,024    69,885,455    118,197,479 
CLO Fund Securities           51,678,673    51,678,673 
Equity securities           4,414,684    4,414,684 
Asset Manager Affiliates           38,849,000    38,849,000 
Joint Venture           21,516,000    21,516,000 
Total  $25,006,750   $100,605,594   $186,343,812   $311,956,156 

 

As a BDC, the Company is required to invest primarily in the debt and equity of non-public companies for which there is little, if any, market-observable information. As a result, a significant portion of the Company’s investments at any given time will likely be deemed Level III investments. Investment values derived by a third party pricing service are generally deemed to be Level III values. For those that have observable trades, the Company considers them to be Level II.

 

Values derived for debt and equity securities using comparable public/private companies generally utilize market-observable data from such comparables and specific, non-public and non-observable financial measures (such as earnings or cash flows) for the private, underlying company/issuer. Such non-observable company/issuer data is typically provided on a monthly or quarterly basis, is certified as correct by the management of the company/issuer and/or audited by an independent accounting firm on an annual basis. Since such private company/issuer data is not publicly available it is not deemed market-observable data and, as a result, such investment values are grouped as Level III assets.

 

Values derived for the Asset Manager Affiliates using comparable public/private companies utilize market-observable data and specific, non-public and non-observable financial measures (such as assets under management, historical and prospective earnings) for the Asset Manager Affiliates. The Company recognizes that comparable asset managers may not be fully comparable to the Asset Manager Affiliates and typically identifies a range of performance measures and/or adjustments within the comparable population with which to determine value. Since any such ranges and adjustments are entity specific they are not considered market-observable data and thus require a Level III grouping. Illiquid investments that have values derived through the use of discounted cash flow models and residual enterprise value models are grouped as Level III assets.

 

The Company’s policy for determining transfers between levels is based solely on the previously defined three-level hierarchy for fair value measurement. Transfers between the levels of the fair value hierarchy are separately noted in the tables below and the reason for such transfer described in each table’s respective footnotes. Certain information relating to investments measured at fair value for which the Company has used unobservable inputs to determine fair value is as follows:

 

 41 

 

 

 

   Nine Months Ended September 30, 2018 
   Debt Securities   CLO Fund
Securities
   Equity
Securities
   Asset Manager
Affiliate
   Joint
Venture
   Total 
Balance, December 31, 2017  $69,885,455   $51,678,673   $4,414,684   $38,849,000   $21,516,000   $186,343,812 
Transfers out of Level III¹   (694,662)       (1,142,283)           (1,836,945)
Transfers into Level III²   20,941,778                    20,941,778 
Net accretion   135,616    4,305,175                4,440,791 
Purchases   34,761,038    9,500,000                44,261,038 
Sales/Paydowns/Return of Capital   (8,641,522)   (17,374,962)       (1,000,000)       (27,016,484)
Total realized loss included in earnings   (56,873)                   (56,873)
Change in unrealized loss included in earnings   (5,104,310)   (124,955)   (335,348)   (2,031,000)   (142,430)   (7,738,043)
Balance, September 30, 2018  $111,226,520   $47,983,931   $2,937,053   $35,818,000   $21,373,570   $219,339,074 
Changes in unrealized losses included in earnings related to investments still held at reporting date  $(1,693,491)  $(124,955)  $(335,348)  $(2,031,000)  $(142,430)  $(4,327,224)

 

¹Transfers out of Level III represent a transfer of $1,836,945 relating to securities for which pricing inputs, other than their quoted prices in active markets were observable as of September 30, 2018.

²Transfers into Level III represent a transfer of $20,941,778 relating to debt securities for which pricing inputs, other than their quoted prices in active markets were unobservable as of September, 2018.

 

   Year Ended December 31, 2017 
   Debt Securities   CLO Fund
Securities
   Equity
Securities
   Asset Manager
Affiliate
   Joint
Venture
   Total 
Balance, December 31, 2016  $153,741,745   $54,174,350   $5,056,355   $40,198,000   $   $253,170,450 
Transfers out of Level III¹   (3,867,400)                   (3,867,400)
Transfers into Level III²   2,477,500                    2,477,500 
Net accretion   246,238    11,139,633                11,385,871 
Purchases   53,219,762    11,211,368    182,000        36,738,873    101,352,003 
Sales/Paydowns/Return of Capital   (136,020,685)   (25,598,497)       (2,750,000)   (11,824,015)   (176,193,197)
Total realized gain included in earnings   (2,121,907)   (1,264,789)               (3,386,696)
Total unrealized gain (loss) included in earnings   2,210,202    2,016,608    (823,671)   1,401,000    (3,398,858)   1,405,281 
Balance, December 31, 2017  $69,885,455   $51,678,673   $4,414,684   $38,849,000   $21,516,000   $186,343,812 
Changes in unrealized gains (losses) included in earnings related to investments still held at reporting date  $(479,087)  $2,016,608   $(823,671)  $1,401,000   $(3,398,858)  $(1,284,008)

 

¹Transfers out of Level III represent a transfer of $3,867,400 relating to debt securities for which pricing inputs, other than their quoted prices in active markets were observable as of December 31, 2017.

²Transfers into Level III represent a transfer of $2,477,500 relating to debt securities for which pricing inputs, other than their quoted prices in active markets were unobservable as of December 31, 2017.

 

As of September 30, 2018 and December 31, 2017, the Company’s Level II portfolio investments were valued by a third party pricing services for which the prices are not adjusted and for which inputs are observable or can be corroborated by observable market data for substantially the full character of the financial instrument, or by inputs that are derived principally from, or corroborated by, observable market information.

 

 42 

 

 

As of September 30, 2018, the Company’s Level III portfolio investments had the following valuation techniques and significant inputs:

 

Type Fair Value Primary Valuation
Methodology
Unobservable
Inputs
Range of Inputs
(Weighted Average)
Debt Securities $ 11,763,622 Enterprise Value Average EBITDA Multiple 5.8x– 8.3x (5.9x)
99,462,898 Income Approach Implied Discount Rate 7.0% – 27.3% (12.0%)
Equity Securities 2,928,053 Enterprise Value Average EBITDA Multiple 4.5x – 11.3x (10.0x)
9,000 Options Value Qualitative Inputs(1)  
CLO Fund Securities 38,443,651 Discounted Cash Flow Discount Rate 10.4%-12.0% (11.80%)
Probability of Default 2.0%
Loss Severity 25.9%
Recovery Rate 74.1%
Prepayment Rate 25.0%
9,000,000 Market Approach 3rd Party Quote 90.0%
540,280 Liquidation Value Qualitative Inputs(2)  
Asset Manager Affiliate 35,818,000 Discounted Cash Flow Discount Rate 3.33% - 12.0% (7.14%)
Joint Venture 21,373,570 Enterprise Value Underlying NAV of the CLO  
Total Level III Investments $ 219,339,074      

 

¹ The qualitative inputs used in the fair value measurements of Equity Securities include estimates of the distressed liquidation value of the pledged collateral. In cases where KCAP’s analysis ascribes no residual value to a portfolio company’s equity, KCAP typically elects to mark its position at a nominal amount to account for the investment’s option value.

2 The qualitative inputs used in the fair value measurements include the value of the pledged collateral.

 

 43 

 

 

As of December 31, 2017, the Company’s Level III portfolio investments had the following valuation techniques and significant inputs:

 

Type Fair Value Primary Valuation
Methodology
Unobservable
Inputs
Range of Inputs
(Weighted Average)
Debt Securities $ 14,059,524 Enterprise Value Average EBITDA Multiple / WACC 5.1x - 6.1x (5.2x)
15.2% - 18.5% (17.4%)
$55,825,931 Income Approach Implied Discount Rate 6.4% - 23.5% (12.0%)
Equity Securities $4,405,684 Enterprise Value Average EBITDA Multiple / WACC 4.5x – 15.2x (9.8x)
10.8% - 15.1% (12.2%)
9,000