Hercules Capital, Inc. (HTGC) Q4 2011 Earnings Report, Transcript and Summary

Good day and welcome to the Hercules Technology Growth Capital Fourth Quarter 2011 Conference Call. At this time all participants are in a listen-only mode. Later, we’ll conduct a Question-and-Answer Session and instructions will follow at that time. [Operator Instructions] As a reminder this conference call is being recorded. I would now like to introduce the host for today’s conference Ms. Linda Wells with Investor Relations for Hercules. Please go ahead.

Thank you, operator, and good afternoon, everyone. On the call today are Manuel Henriquez, Hercules’ Co-founder, Chairman and CEO; and Jessica Baron, Vice President Finance, and Interim Chief Financial Officer. Hercules’ fourth quarter 2011 financial results were released after today’s market close. They can be accessed from the company’s website at www.htgc.com. We’ve arranged for replay of the call on Hercules’ web page or by using the cell phone number and pass code provided in today’s earning’s release. I would also like to call your attention to the Safe Harbor disclosure and earnings release regarding forward-looking information. Actual financial results filed with the Securities and Exchange Commission may differ from those contained herein due to timing delays between the date of this release and in the confirmation of final audit results. In addition, the statements contained in this release that are not purely historical are forward-looking statements. These forward-looking statements are not guarantees of future performance and are subject to uncertainties and other factors that could cause actual results to differ materially from those expressed in the forward-looking statements, including, without limitation, the risks and uncertainties, including uncertainties surrounding the current market turbulence and other factors we identified from time to time in our filings with the Securities and Exchange Commission. Although we believe that the assumptions on which these forward-looking statements are based on are reasonable, any of those assumptions can prove to be inaccurate, and as a result forward-looking statements based on those assumptions also can be incorrect. You should not place undue reliance on these forward-looking statements. The forward-looking statements contained in this release are made as of the date hereof and Hercules assumes no obligation to update the forward-looking statements for subsequent events. To obtain copies of our latest SEC filings, please visit sec.gov or visit our website at www.htgc.com. I would now like to turn the call over to Manuel Henriquez, Hercules’ Co-founder, Chairman and CEO.

Good afternoon everybody and thank you everybody for joining on the call today. I will follow my typical format of giving everyone an update on the operations of business, an overview of the environment, and then as I do generally at the beginning of every fiscal year, a perspective of what we are looking for and our expectations for 2012 and share some color on that environment and that outlook as well. First, let me turn to our quarterly performance. The fourth quarter marked a solid quarter and capped off a great year for Hercules. As many of you may recall we started off the year in a very slow and steady pace in 2011 and it finished off in a very strong year of commitments and fundings. The year ended up in a very robust funding commitment and representing a record year in both fundings and commitments for the fiscal year 2011. We ended the year with total assets of $652 million in assets representing a 38% increase year-over-year in total investment assets. A huge achievement as we converted our additional liquidity into earning assets as we promised. Further to that point, we saw a conversion of the interest earning assets into increased growth in our net investment income of $0.91 per share for 2011 of which we ended up paying a dividend of approximately $0.88 a share in dividends for fiscal 2011. Again, continued strong growth in matching our earnings and our dividends together. Further to that continuing to show the strength of Hercules, we recently executed a capital raise of approximately $48 million at a net above book value to increase our liquidity and continue to strengthen our financial position as we look to originating activities in 2012. Turning my attention more specifically to the fourth quarter and fourth quarter results. We reported total investment income of $21.2 million for the fourth quarter, up 21% year-over-year. On the net investment income basis, we reported $10.8 million or $0.25 per share representing a 25% increase over the period of Q3 2011. On a DNOI basis, we had $11.5 million of income translating into $0.27 a share and DNOI up $0.23 from the prior quarter. Because of our continued financial performance and continued increase in earnings, our board of directors declared a 5% increase in our dividend to $0.23 per share up from $0.22 in the prior period. Now, turning to portfolio growth. New commitments during the quarter were quite strong. We continue to see a very robust pipeline and continue to be well received in venture industry by seeing a very, very active pipeline of new opportunities. In the fourth quarter we closed new commitments totaling approximately $165 million representing a 34% increase over the same period in 2010. Fundings or conversion of those unfunded commitments or commitments I should say, also was very strong at $97 million of fundings during the period for net portfolio growth in the fourth quarter of approximately $73 million, ahead of plan on most accounts. For the full year, we had a record year. We had $630 million of new commitments representing a 20% increase year-over-year, or said differently, over $1 billion of capital committed over the last 24 months continue to show the strength and brand that we have in the marketplace as Hercules, thanks in no small part to our team and the hard work of that team who continue to build our brand. Record fundings also occurred in 2011 with over $434 million of fundings on a gross basis in 2011 representing an 8% increase over 2010. We finished the invested portfolio at the year end at $653 million of invested assets representing a 38% increase over the same period in 2010. On the interest earning assets we had $586 million of interest earning assets representing a 45% increase year-over-year over 2010. All indications of a very strong and continued growth in our portfolio. However, that growth was not compromised by giving up or giving into credit. We continue to maintain a very disciplined underwriting approach. We will be more than happy to sacrifice quarterly earnings if we do not see the quality of assets in the marketplace to continue to originate new loans. Overall, our credit rating maintains a very strong rating at 2.01 over the quarter, a slight decrease over the prior quarter but still very, very solid at a level of 2. We continue to focus on portfolio growth in 2012 but we continue to maintain a very disciplined slow and steady strategy where we want to continue to originate assets, but continue to take a cautious approach and to originate assets especially in lieu of the macroeconomic levels that we’re seeing in the market place on a global basis as well as a election year that we have this year. That does not mean we will not originate assets but we are taking a much more guarded approach as we continue to onboard new assets in the year which I’ll speak to more about that as I go along. Moving towards yields. During the quarter, we saw further yield compression as we started, and to remind everybody, we started 2010 and 2011 indicating to our shareholders that we expect to see yield compressions in the 150 to 250 basis points in calendar 2011. We actually end up realizing approximately 180 basis points yield compression during 2011. This is an indication as we manage the portfolio in different asset classes in different stages on how we help to manage that yield compression in the market place. As we shifted away from our low level market as we did in the beginning of the year, we saw some of the yield compression manifest itself because of moving away from lower middle market loans. We do not anticipate to have much lower middle market asset class going to 2012, however we will continue to selectively make investments in certain lower middle market technology related companies that we see that are more classified as later stage companies. Now, turning to 2012 and given the same kind of yield perspective that we did in 2011, at this point we believe that we will see another 50 to 100 basis points yield compression for new assets originated in 2012. Much, much significantly less yield compression than we anticipated in 2011. This equates to, for modeling purposes, new assets being originated in a 12.5% to 13.5% range as opposed to the typically 14% to 15.5% yield that we historically have seen as we underwrite and shift our asset classes into different sectors of the technology and life sciences categories. Moving to our balance sheet, I continue to be very happy to see a very strong and solid balance sheet with increased liquidity as we recently added with the capital raise. We finished the year 2011 with approximately $184 million of liquidity, $65 million of that in cash and a $120 million of that available in lines of credit so we could further leverage our portfolio and continue through our growth. In addition to that, as I disclose earlier on, we raised $48 million in January of 2012, a portion of that $48 million will be used to refinance on existing SBA debentures. For those who you who were with us in 2011 in the first quarter, we also did the same exercise where we actually paid back a portion of our SBA debentures and we successfully -- we cut our interest rate yields on those debentures quite dramatically. Turning to liquidity in our portfolio, we have changed approximately several liquidity events in 2011. The largest of that liquidity event, and historically the highest gain in the history of Hercules, was our investment in Infologix, which translated into an $8.3 million gain. That represents the largest gain in the history of Hercules. We also saw an abundance of liquidity events in the form of IPOs and continued M&A event in our portfolio. We expect to see similar levels of performance of exits in our portfolio in 2012 as you saw in 2011. So far in the beginning of Q1 of 2012 we have already seen one liquidity event realize. BARRX Medical was recently purchased by Covidien for a net gain of approximately $2.2 million of Hercules representing an IR of approximately 33%. Most recently in February, we also had an IPO completed for Cempra, which completed IPO recently. Nothing to be left behind we currently have seven companies in IPO registration including our investment in Facebook, which recently filed for its IPO as well. This represents approximately 10% of the venture stage companies in IPO registration. As a reminder, in December and successfully closed in February, we made a purchase of $9.6 million in Facebook stock representing over 307,000 shares in Facebook stock at approximately $31 per share price. Providing further exposure to our shareholders is our promising investment portfolio in warrant and equity, in what we believe some of the most promising and most interesting companies in America. We currently have over 109 warrant positions, the highest in the history of Hercules and 2 private venture stage companies. We have over 40 equity position in venture stage companies. The warrant portfolio is valued at approximately $30 million while the equity portfolio is valuated at approximately $37 million at the end of the year. As a reminder, historically we’ve seen warrant monetization in multiples of 1x to as high as 8.7x on those warrant realizations. However, we always caution our shareholders and our investors, do not assume an 8x multiple and we also remind shareholders that we don’t expect to see greater than 50% of our warrant to monetize over the course of their lifecycle. Turning my attention to the venture industry. I'm very happy to report that the venture capital industry continues to show its size of resiliencies. It achieved $32.6 billion of capital investments to over 3200 companies in 2011 representing a 10% increase year-over-year. This data is provided to us by Dow Jones Venture Source. Q4 alone represented $7.4 billion of capital invested to 803 companies. Entering the tertiary [ph] allocations. The life science’s sectors experienced an $8.4 billion to 738 deals, basically the same amount of money deployed in 2010. $3.9 billion went to biopharmaceutical companies also representing a flat growth year-over-year. Medical devices on the other hand received $3.3 billion of capital and experienced a tremendous increase of over 27% on capital being deployed over 2010, and one of our growth and focus areas that we have for our portfolio. Medical IT, some of you may recall that upon healthcare reform, we felt strongly that shifting our focus into medical IT was a key area to help move the process through the healthcare reform act that’s going through. That industry received $600 million of capital representing a 22% increase year-over-year. Information and technology experienced a flat year at $7.9 billion of capital to over 1,000 companies. Software representing a large growth in that sector had $4.6 billion deployed. On the hardware side, meaning a hardware and semiconductors, saw a dramatic decline in capital being deployed to those companies at $2.1 billion year-over-year. Not a shocking surprise, one of the largest growth sectors in the information technology earnings was consumer web companies. These are companies more akin to Twitter, Zenga, LivingSocial, Groupons of the world and the Facebooks of the world. That sector experienced $5.2 billion to over 452 companies. As you’ll see on our website in our warrant holdings of 109 companies, we have a very strong representation into consumer web companies as well in our portfolio including our investment in Facebook. Business services, financial services also experienced a very strong year-over-year at $5.1 billion representing a 36% increase year-over-year in capital being deployed to those sectors. We’re also seeing a very interesting shift in stage of companies, something that we ourselves are emulating in our own portfolio as we start shifting assets away from later stage companies which we feel that are beginning to be well valued and in some cases over valued. We are moving our concentration back towards expansion stage companies and earlier stage companies where we find valuations to be much more attractive. You’ll see the shift in our portfolio in 2012. On the exit side, debentures experienced 45 companies went public in 2011 for $5.4 billion, an increase in the number of capital raised, but basically flat in number of companies. In 2011, in Q4, we saw 10 companies complete their IPOs for $2.4 billion. There are currently 60 companies in IPO registration today, 6 of which at year-end were Hercules companies. Also meaningful size of improvement and encouragement is the median time of venture capital dollars invested in a company to exit. We have seen a dramatic impression in this period of time and it’s an important leading indicator to the health and vibrancy of the venture industry. We saw the number go from 8.1 years of the first capital invested by venture capitals to now 6.5 years. That said, although that number is a dramatic improvement, we are far from the days of 3.5 to 3.3 years from the first venture capital dollars to an exit occurring in the marketplace today. Lastly, the M&A market continues to be very, very robust. We continue to see very, very strong M&A activities in the venture industry. $46 billion of M&A events took place in 2011 to over 460 companies, a 30% increase year-over-year. If the first part of 2012 is any indication I do not see or expect any let up in that M&A activity, whatsoever. In closing on the financing on the venture capital industry. The venture industry raised $16.2 billion to 135 funds. However, the interesting side note of that information was the amount the capital being deployed to early-stage funds. $3.6 billion was deployed to early-stage funds in the fourth quarter, and a total of $5.8 billion of the total $16 billion in 2011 was deployed to early-stage funds, giving you an indication of the valuation increases being seen in the private technologies companies in particular, and reinforcing our interest and shifting our focus more to earlier stage deals. Now, the outlook for 2012. We think the market remains extremely strong and we see a very, very good market opportunity for us in 2012. However, there is an inordinate amount of macroeconomic variables outside of our control. With that, we will continue to maintain a disciplinary growth of slow and steady in 2012. We expect to see $500 million to $700 million of new commitments in 2012. We expect to see yield to be a 100 basis points lower in a 12.5% to 13.5% range. We are very optimistic for 2012, but we’re going to be cautious given a lot of the uncertainty that’s out there. This is no different than our same strategy we deployed in 2011, where we said it was only $600 million of new commitment. We have a very strong pipeline. We have over $1.2 billion in transactions in the pipeline today. We have $51 million in fine term sheets in-house already. We’ve already closed over $37 million of commitments in the first quarter. We had over $168 million of unfunded commitments at the end of the year, which Jessica will expand upon. We expect to see net portfolio growth in the first quarter of $30 million to $40 million -- net portfolio growth in the first quarter. That number could be affected up or down as we choose to accelerate closing some transactions that are clearing due diligence, we feel comfortable in $30 million, $40 million range of closing of new net funded deals for the quarter. In summary, 2011 was a tremendous year for us our team executed flawlessly. Their hard work, their dedication and focus on credit quality is exemplary. Without that focus, our credit performance would not be what it is today. We see a very strong venture capital marketplace ahead of us. We see a strong liquidity environment, and we’re only encouraged by what we’re seeing in the IPO market as it exists today and getting better. We look forward to deploying our capital in 2012 to continue to grow our asset base and continue to see increase in our dividend and earnings as we saw we reported in the first quarter. I remain very optimistic and I am very encouraged with what I’m seeing in 2012. With that I’ll turn the call over to Jessica, who’ll run through the numbers for you. Jessica?

Thank you, Manuel, and thanks everyone for listening today. I’ll give a brief recap of the fourth quarter and the year 2011. For the fourth quarter, we achieved approximately $21.2 million in total investment income or revenues compared to $17.5 million for the fourth quarter of ‘10. For the full year of 2011, we achieved approximately $79.9 million in total investment income compared to $59.5 million in 2010. The 34% year-over-year growth was due to a higher average outstanding balance of yielding assets during the year and due to one-time fees in acceleration, the fees related to early payouts. As we have shared with you in prior calls, the impact of early loan payoff fee and interest income is very hard to predict quarter-to-quarter. Excluding early payoffs, as Manuel indicated, a normalized run rate for our portfolio-effective yield should be about 12.5% to 13.5%, and fee income on a normalized basis should also be $1.1 million to $1.3 million per quarter. The effective yield on our portfolio investments during the fourth quarter was 15.6% compared to 17.7% in the fourth quarter of 2010 and 16.7% in the third quarter of 2011. Excluding the income acceleration impact from early payoffs and fee income from one-time events, the effective yield for the quarter was 14% compared to 15.8% in the fourth quarter of ’10 and basically flat as compared to the third quarter of 2011 which was 14.2%. As Manuel indicated and as we expected, the effective yield excluding early payoff today versus at the end of 2010 has compressed by about a 180 basis points. This is a result of portfolio compensation, transiting from lower middle market investment which have higher yields the technology and life science and that investments which have lower yields the higher equity realized gain potential. I’d like to note that our pic [ph] income which is noncash revenue which must in turn be paid to our shareholders in dividends continues to represent a small component of less than 2.1% of total investment income for the fourth quarter. Our total cost of debt increased to $4.6 million in Q4 2011 compared to $2.7 million incurred in Q4 ’10 and $4.3 million in the prior quarter. The year-over-year increase is driven by $1.3 million as expense incurred on our $75 million convertible note issued in April. Approximately $300,000 of this amount is noncash interest expense attributed to the accretion in the fair value of the conversion feature on these convertible notes. Our weighted average cost of debt decreased to 6.23% in Q4 of ’11 from 6.27% in Q4 ’10 and 6.5% in Q3 of ’11. The year-over-year slight improvement was driven by lower weighted average cost of debt on our outstanding SBA debentures up 5% in the fourth quarter of ’11 versus 6.2% in the fourth quarter of ’10 and this is offset by the higher weighted average cost of debt on our convertible notes at 8.2%. Operating expenses for the quarter totaled $5.8 million as compared to $5.4 million in the fourth quarter of ’10, and operating expenses for the full year 2011 was $24.4 million compared to $20.3 million in 2010. These increases have primarily been related to higher cost expense which has been a function of expanding our origination team of course for the year. Q4 2011 net investment income was $10.8 million or $0.25 per share based on 43.2 million shares outstanding compared to 9.5 million or $0.24 per share based on 38.9 million basic shares in Q4 of ’10. 2011 net investment income was $39.6 million or $0.91 per share based on 40 million basic shares versus 2010 NII of $29.4 million or $0.80 per share based on $36.2 million basic shares. Our net unrealized depreciation during the fourth quarter was $7.4 million of which $5.7 million is related to net changes in loan values, 907,000 approximately was related to net increases in equity investment valuations and 860,000 was attributable to net increases in the fair value of the warrant portfolio on other assets. Our net realized losses for the fourth quarter was approximately $680,000 primarily due to the write off of approximately $720,000 in equity and warrant investments in 2 technology companies offset by the warrant gains in 1 technology and 1 life science company. Since inception net realized losses totaled about $50.1 million on GAAP basis. When compared to total commitments of approximately $2.7 billion over the same period net realized losses represent 1.8% of total commitments on an annualized rate of 25 basis points. Now moving on to the balance sheets. I’d like to first provide a summary of the investment portfolio. We saw significant year-over-year growth as Manuel mentioned in our investment portfolio as a result of our debt investment funding activities. As of December 31, 2011, total investment assets were $652.9 million, an increase of $180.8 million or 38.3% from the same time a year ago. As Manuel mentioned, we closed a record number of commitments and fundings in 2011. These commitments of approximately $630.3 million represent an increase of about 20.5% year-over-year and fundings of approximately $433.6 million represent an increase of 8.1% year-over-year. During the fourth quarter we closed commitments of approximately $165.3 million and funded $97.2 million to new and existing portfolio companies. Since quarter end, we have closed an additional $36.9 million of commitments and we have $51 million of pending commitments today. As Manuel indicated, we are optimistic about portfolio growth in 2012. We will take a cautious approach given the uncertain economic environment and remain selective in our investment approach. We experienced a more normal level of principal amortization and repayments during the fourth quarter. Total repayments were about $24.5 million. The net result of our funding and principal collection activities was almost 46% growth and deferred value of our yielding portfolio balanced from $401.7 million at December 31, 2010 to $585.8 million at the end of 2011. Some additional points about our loan portfolio, as of year end 90.7% of our loan past floating rates, our floating rates was floored, and 99.2% of our loan and investments are in senior debt investment. We are particularly pleased with the loan portfolio credit quality. The weighted average loan rating on a portfolio was 2.01 as of December 31, 2011 compared to 2.22 on December 31, 2010. I’d like to point out that we only have one debt investment on non-accrual at the end of the year. At December 31, 2011, our warrant and equity investments combined at fair value represent approximately 10.3% of our total portfolio. Our warrant positions in a 109 portfolio companies provided us with the option to potentially invest $73.7 million of additional capital. In addition to this, we have $37.1 million of equity investments at fair value at the end of the year. We believe these non-interest bearing assets could provide capital return for the company in the future. Now describing our liquidity, at December 31, 2011 we had approximately $184.3 million of availability comprised with $64.5 million of cash and $119.8 million of borrowing capacity under our credit facilities. We ended the quarter with $225 million of debentures outstanding. As Manuel noted, in 2012 we re-paid $24.3 million of our SBA debentures and these had a cost of debt of approximately 6.6%. As a result, we will have a one time expense in the first quarter of 2012 of approximately $0.5 million or about a penny of NII. This is due to the amortization acceleration of fees that we paid on these debentures at commitment. We will submit a commitment request to re-borrow these $24.3 million of debentures and based on the pricing of the debentures at the September 2011 pooling which was at less than 3% we expect to reduce our cost of debt on these borrowings by approximately 2.5% to 3% over the long term. Our net asset value as of December 31st was $431 million or 9.83 per share based on 43.9 million shares outstanding, as compared to $412.5 million or 9.50 based on 43.4 million shares outstanding at the end of the previous quarter. Also subsequent to quarter end we raised $48 million in equity not below book value further adding to our balance sheet flexibility. We should point out that these -- the earnings impact due to dilution of the capital raised will be approximately $0.02 per share until we fully invest these funds over the course of the next couple of quarters. Finally, moving on to our dividends, as you may have seen from our press release issued earlier today we declared and distributed dividend of $0.22 per share during the fourth quarter 2011 and announced that the board has declared a $0.23 dividend payable on March 15, 2012 to shareholders of record on March 10. So in closing we had a strong fourth quarter as well. We have onboard in excess of $72 million of quality yielding assets, our credit quality is solid and reflects our conservative investment approach. While we expect to slow down our investment activities in the first half of 2012 given market uncertainty, our liquidity places us in great position to service the high demand out there for venture capital debt and build our portfolio in 2012. Operator, we are now ready to open the call for questions.

[Operator Instructions] We have a question from the line of John Hecht with JMP Securities.

First question, it’s just so unclear on the yields. You are talking about a 100 basis point compression over the course of the year to 12.5% to 13.5%. Does that mean you would expect that Q1 to be around the 13.5% zone going down to 12.5% over the course of the year or is this - you kind of think things would go for 14% in the last quarter down to 13% now and it will stabilize there.

The reason why we are actually making these disclosures is we get these questions a lot, and we want to make sure that the investors understand the multiple different components of yield. But to answer your question specifically, the 100 basis points in compression that we are advocating is for new deals. So you have a legacy portfolio of over $560 million earning a yield in the 13.5% plus range. It is the new yields or the new deals that we are on boarding that we expect to see a 12.5% to 13.5% yield compression from the historical yields. So what happens is, on overall blended portfolio level you will probably see a portfolio compress between 30 to 65 basis points over the counter yield as loans amortize down and new loans are added into it. You won't see an immediate reduction in the yields of the legacy portfolio. It will be a gradual waiting of 25, 30 basis points in Q1 and Q2 time period and then approaching the 100% or so yield over the remainder of 2012. But it’s not going to be an immediate hit.

Okay. That makes sense. Manuel can you comment on the competition, the competitive environment? I mean last year I think your tone was that some of the larger banks were causing some of the yields to compress it, if I hear you, you are a little bit more optimistic that maybe it’s stabilizing with the new assets in the 12.5% to the 13.5% zone. Are you feeling better about the competitive environment or the rationality of the competitive environment or is there something else we should be thinking about?

It’s a great question because the yield compression is actually not being driven by competition whatsoever. I mean it has a little bit of impact but it’s not material. The real yield compression is, it’s what’s going on in the industry. What I mean by that is that, I have been doing this for 25 years, there is a leading indicator in the market place, and that is when companies started approaching a very strong well valued evaluation, the venture capitals themselves would now rather start giving up equity and start negotiating harder on the interest yield components. When their portfolio companies are undervalued they will fight tooth and nail to keep as much equity as they possibly can, but give you a lot more on the interest rates. And so today what we are seeing is, we are seeing a much more heated debate with the venture capitals on interest rates, but much more willing to give up on the warrants, which is a further indication on where are you on the evaluation cycle. Now, that may sound very draconian, but in a very perverse way that actually is both good and bad for us. Because what happens is when we have this whole legacy portfolio of a 109 warrants you will see all of those legacy investments appreciate in value quite dramatically which is why you are seeing that asset value increase. [indiscernible] new assets on board you want to make sure that you are being very stage independent, so we are throttling back the portfolio away from later stage deals which we think are extremely well valued and looking at more in the mid bracket expanse stage and early stage deals where we think that the valuation are much more attractive and so are the yields right now. That more than competition is what's driving the change in yield spreads.

Okay, thanks very much, and final question related to your debt outstanding and liquidity. At this point, you have a lot of liquidity, but there is a lot of -- it seems like there is a lot of deals for us, how fast can you ramp up, you think you can ramp up your accordion and/or which you consider doing like a baby bond deal as we’ve seen some other BDCs do recently? And then finally on that measures, what level would you take your BDC qualified leverage to and your total leverage to? What are you comfortable with?

Okay. A lot of fantastic questions embedded in there. Let me try to think in the order you basically asked. Liquidity, there is no question that we have a very strong liquidity position, but as we historically have done I don’t think that liquidity position is necessarily sufficient. What I mean by that is that we could turn originations on and off relatively quickly within the quarter or 2 if think the quality deal is there and the market opportunities are there. Right now we are coming out of Q4 and we are saying we grew very strongly in 2011. We want to take a slight pause in Q1 to kind of catch up and get our liquidity position in place to really understand where are we, on funding commitments, where are we on horizon on looking at deals that are in the pipeline today from a use of cash. As to what we are comfortable with, there is absolutely no question that what other BDCs have done in the marketplace has not gone unnoticed by us. The issues of baby bonds led by one very large established BDC has not gone unnoticed by us. We actually believe strongly that our preference remains and continues to be -- delevers the balance sheet further than it is to do if necessary equity capital raises however with that said, we prefer that leverage to be in 5 years to 7 years duration as opposed to relying very heavily on short term bank borrowings to finance that growth especially of what we learn in 2008 and 2009 timeframe. We think that relying on bank leverage is probably a 25% to 35% of our liquidity will be in the form of short terms with the balance of that coming in convertible bonds or baby bonds as you refer to today. So we have a very high expectations of that. That said we recently filed a new shelf offering with the SEC to allow us to be able to go out to the market place in 2012 to actually issue a baby bond. Our current shelf today does not allow us to issue a baby bond and we are waiting for the SEC approval to be able to have that mechanism in place to be able to pursue that. On the leverage statement, on a qualified leverage basis we continue to remain very much where we have been historically for the last 5 years. And that is leverage on a qualified basis that means excluding SBIC leverage, is in the 65% to 30% range is what we feel comfortable with using qualified leverage excluding SBIC. With the SBIC fully burden on the leverage equation you are looking at probably a 120 to 125 leverage position with a total capacity of what we have today at 1.5 leverage with our SBI fully drawn at 225 and our balance sheet the way it is today.

Our next question is from the line of Joel Houck with Wells Fargo.

Just a follow up on I think it was John’s question on leverage. I often think investors don’t fully appreciate the nature of your assets factor amortizing much shorter duration than in typical BDC, with that being said it would seem logical that you would apply more of the traditional bank credit leverage to understand your comments about what happened in 2008, 2009. But is there something else that’s driving kind of a lack of traditional leverage here beyond just being averse to the credit crisis or financial crisis that we saw several years ago.

I think that we have I think 3 banks today, Wells Fargo, Union Bank and RBC, who are our financial supporters. Wells Fargo of course being the largest and probably almost steadfast partner on the short term bank lines marketplace. The issue that we have is that because those traditional bank line don’t have tails to them means that you have a balloon payment at the end of the duration period, at the end of 3 years, if those bank lines, and if those commercial banks would return back to circa ’07, ‘08 we had a 1 year -- 24 month tail to them, I would feel lot more comfortable borrowing under those facilities because you are able then to -- with your statement at the beginning of your comment, you are able to use the amortization to kind of buy down and pay down that line in very controlled manners as opposed to having to rush to kind of pay those lines down if you are not going to renew those bank lines. So, that’s part of the driver. The second element of the equation as to why we don’t want to use greater than 25% or 35% of liquidity from traditional commercial banks is the premise that we are still unclear as to whether or not we can actually bring other banks into that syndicate to really grow that loan pool to where we think it should be. We would be delighted to see a $300 million syndicate on commercial bank lines with tails on them but in this current credit environment it’s still not there yet.

Okay, so that’s really the factor is more the structure of the facility as opposed to aversion to using it.

Yeah, it’s all inherent in the structure.

And our next question is from the line of Troy Ward with Stifel, Nicolaus,

Great, thank you. Manuel, can you talk a little bit about the SBIC, paying back some of that SBA debt. Obviously, clear benefit to lowering the price 2% to 3%. But I'm assuming you also get to basically just reset the maturity on that to our knowledge, when you redraw it will be a new 10 year note, is that correct?

I’ll let Jessica who has been spearheading the whole effort field that.

Sure. That is correct it will be a new borrowing with a new 10 year life. I think the life on the debentures we paid down had about 7 years remaining.

Okay. And then how much - from a yield perspective obviously that’s the more important side of it, it looks like than the maturity. How much more of that do you have kind of in that 6 plus percent range?

This is actually the last chunk of this particular pricing, but the debentures we borrowed over the course of ’07 and ’08 all have pricing that we are looking at. As you know the pooling of the debentures over the past couple of sessions have been significantly lower than the rest we saw in 2009 and even the first half of ‘10. We will always be looking at that as a vehicle to lower our cost of debt.

Okay. Jessica also, the K is not out yet, but you said in the press release that $7 million of the appreciation was on 2 life science debt investments in the quarter. Can you outline what those were, and were they previously marked below par significantly and that’s why they had so much appreciation or what caused that appreciation on the debt investments?

You hit the nail on the head. They are primarily exactly that. The credit outlook has improved quite dramatically in those companies with some tangible evidence and results actually have driven our confidence in re-marking them up.

Okay, that’s good. And then finally Manuel, can you just -- kind of a 2 part question. First of all, what is your current headcount and given the asset growth you had in 2011, and you are still expecting more in 2012, do you expect to continue to build out your platform or will the shareholders start to see - some economies of scale start to flow through?

No, I think that - okay, for one thing what we are doing right now, and probably we are going to take a slight pause in Q1, although - I'm looking more as a breather [ph] given our spectacular growth in 2011. The reason we are going to take a little pause is, right now we are purposefully going through and repositioning our whole technology group. We feel very strong about it at this point. We are in a policy right now of reformatting our whole technology group to be much more industry vertical focused. So, we are going to have individuals who are exclusively focused on the networking communications areas. Individuals focused simply on multiple different layers of software. So we are gravitating much more to vertical expertise and really driving the group into vertical expertise because we think it’s a better value add proposition, the venture industry is asking us to move in that direction as well. They are moving in that direction as well and we believe it’s a much better partnership to have industry -- very tight industry to subvertical expertise in an area. I do not anticipate any meaningful headcount and continue the transformation that we are doing on our tech group. We currently have 56 people on the headcount today. We are looking at 2 or 3 investment professionals in the first half of 2012, but we are not in a rush to do that. Like we make investments, we are highly selective of the individuals and the characteristics and the make up of that individual that we are looking to hire to fill those positions. We are -- just like we invest, we prefer to take our time in hiring just like we prefer to take our time in investing.

Our next question is from the line of Jason Arnold with RBC Capital Markets.

Just curious if you could comment on what players, competitively speaking, you are finding coming to the table most often against with on deals?

You know, the problem is there is no single answer to that question. Because just to remind you and the investment community, we have 4 verticals that we have in the business. We have our clean technology group, we have our life sciences group that’s further divided into medical device and small molecules. We have our technology group that spans stage issues and we have our lower middle market situation group that focuses on later stage venture stage companies or maturing technology companies and technology related companies. There is no one field competitor that transcends all those verticals or subverticals. So, the answer is we don’t have a common player in all those areas. Where we continue to see the most persistent example of a single player is probably a small commercial bank out here that does venture lending in the market place – that we see most often. But beyond that we don’t have any real other player out there who continuously shows themselves out there.

Okay, and then I guess kind of a follow on to that, do you find that the competitors that you are coming up against on deals are acting relatively rationally or irrationally in any particular segment, maybe a little bit of color there would be helpful.

Sure, I mean look . We are an investment organization. I have no idea what the word market share means. When some of these banks target our market share I scratch my head because we are in investment operations, so we have 70% market share, by definition any asset originating beyond 70% will be a marginal asset in quality. We focus on credit quality not market share, and I don’t know honestly what that means. We’re also not a depository aggregating institution, so I don’t really care about my market penetration or market size as I can’t use deposits. From that perspective the competitive environment out there remains robust. I don’t want to walk away saying that we don’t have competition. Every deal has competition and every deal should have competition. But what we win and why our team wins deal is not on price but on the skills, the relationship, and then vertical knowledge that our team has in the particular space that they are in that the investor community wants to pay a premium, and is willing to pay a premium for the knowledge and skill set that our team brings to the table coupled with our creative structure and capabilities. It’s not about price and it’s not about market share. I don’t see the market competitive environment changing much than it was in 2011. Now, that said, the only real commercial competition out there is the commercial banks who have extremely low cost capital and are doing some still irrational deals out there which who are more than happy not to chase down that rabbit hole.

And our next question is from the line of Jasper Burch with Macquarie.

Just to start off with, you guys have a nice little run rate with your dividend here, even with a little bit of pull back in the first quarter. I was wondering if you could give us any number on what your undistributed distributable income is or was that at the end of the year?

Sure, in fact it’s still over is approximately a $0.01 or slightly less than $0.01 from 2011 to 2012.

Jasper we expect as we saw we had $0.25 in NII and $0.27 in GNOI and we really paid $0.23. We are continuing with our -- what we have been saying since 2007, and we are one of the BDCs to go out there and say, we believe strongly that dividends should trail earnings from a tax point of view and we continue to discipline that we don’t believe we should over payout your dividend without earning them.

Okay. Definitely a good position to have. And then Manuel in your opening remarks you talked about the elections coming up I was wondering if you could point us to sort of any regulatory or legislative topics that you are watching and that you think maybe impactful to your company.

There are 2 sectors in particular that we are very concerned about, potential change of administration. I mean the first and foremost is the impact on potential change in administration, and by the way we are not taking political sides here, republican or democrat, we are agnostic but there is an implication that if a change in administration happens that one administration is more friendlier towards environmental issues than the other ones, other ones is more friendly towards oil issues. What it means is that the clean tech industry could see adverse acceptance if a change in administration -- government subsidies, government tax regulations, inducements to build green plant, etc. were to go away that would have an adverse impact on the clean tech industry. This is why we are taking a more managed controlled outlook for example on the clean tech industry right now, we’ll continue to invest in clean tech. It’s about 12% of our portfolio today, but we are taking a more managed controlled outlook on clean tech to making sure that we avoid companies that have to have a heavy dependency on subsidies or tax grants of government programs in order to thrive. We will remain active and will remain active in making clean tech investments, we are going to shy away from those companies that have high government dependencies. Conversely, the healthcare services side if you believe Obama Care will get reformed or will get abolished, there is an implication on healthcare information systems where if healthcare reform were to go away, and this seems ironic, the need to have greater visibility to avoid fraud in green technology into reforming healthcare maybe at risk in making healthcare investments a slightly less attractive area. So those are the 2 macro level areas that we are focusing on right now. Lastly, although we are very pleased with what we are seeing the thawing of FDA process on the clinical drug trial approvals we still think that the FDA has a long way to go to still improve and reform itself to accelerate the ability to get new drugs approved through the system itself.

Okay, that’s helpful. You aren’t really looking at then tax policy and the potential for either for deal flow and when things come through. Unlike every other BDC out there we are not driven by tax law changes of the driving deal flow. Our deals are totally benign to any tax law changes out there, because our companies are disruptive technologies, they are being nurtured and built today for disruptive solutions that are being 3 to 5 years out in the market later on. So they don’t really give a crap about what happens with tax policies today. Okay, that’s helpful. Then just 1 small modeling question. Your G&A has been low over the last 2 quarters versus the first half of 2011, and I was just wondering if you could give us any color on -- is this sort of a new run rate that we are seeing in the last couple of quarters or might it tick up again?

No, I think that the run rate is sustainable at this point. As I said at the beginning of the previous caller, we expect to see 2 to 3 additional headcount added in our tech portfolio and we may had one more in the life sciences portfolio in 2012, but it’s got to be opportunistic and if it makes sense to add it. But that’s not going to be a meaningful movement of the needle. This row between the first half of 2011 to the second half of 2011 was all contingent upon the expungement of the lower middle market group. We divested ourselves outside of lower middle market group. We still maintain a presence in the later stage technology related areas where we have 2.5 principals in that area focused on that vertical. But we don’t have the headcount focusing on lower middle market deals which we continue to believe are very low margin high leverage deals.

Right, with respect to G&A there is some level of seasonality in the first couple of quarters of the year. So I think that the pattern that you may have seen in 2011 will be consistent with 2011 irrespective of the headcount discussions.

But not a matter of increase in this unit.

No, not a dramatic increase.

Okay, but higher in the first half than the second half regardless.

There are some expenses that transpire in the first couple of quarters based upon seasonality, yes.

And our next question is from the line of Aaron Deer with Sandler O'Neill & Partners.

I know this call is running on but I just had a couple of quick questions. One was on the repayments in the quarter. It seemed like the pace of those slowed down a bit I know obviously that’s evolved a little quarter-to-quarter, I was just wondering -- however you did see anything occurring in the quarter and kind of what you’re seeing year-to-date and how that translates to your guidance for $30 million to $40 million in net growth this quarter?

Yes, in terms of principal repayments, as you know we’ve added a bunch of new assets over the past couple of years. With the structure of our debt yields, we typically don’t have amortization occur at the day one of the investment but amortization on average occurs at about 6 months. So, the fourth quarter principal repayment was representative of the fact that our investments were basically new. You’ll see amortization pickup over the course of 2012 as we get maturity in our portfolio.

Aaron for modeling purposes, modeling out a $20 million, $25 million normal quarterly amortization is in line with where you expected to be. To the second part of your question, we did have an early payoff in the Q1 of approximately $5 million. Q1 will experience a $5 million early payoff.

Okay. And then lastly just more of a curiosity thing, how did you come upon the opportunity for the investments in Facebook and then what are your thoughts there after the IPO, is that just -- does that then get liquidated right away or is that something you hang on to.

Well, as I said, a bunch of investors when we first made an announcement. It will be crazy of us to be in the valley and not be a part of one of the largest and probably the most successful public offerings of the social media company in the history of venture capital. Initially an indicator of that is that, today, and I think the Wall Street Journal yesterday actually alluded to this, Facebook shares according to the Journal yesterday are trading at $42 or $43 a share in secondary markets, and just to remind everybody on this call, we’re in at $31 a share. So already seeing a pretty significant step up in evaluation attributed to that. We get offered shares very often times by multiple different sources in the marketplace. We often times turn them down but I felt very strongly that given what we knew about Facebook, given the tremendous achievement that they have done as an organization, and the near term exit that we are pretty confident that they are going to pursue as evidenced by the recent S1 filing. It made all the sense in the world to take a position in that company which we did, and we’re very happy to do that and we’re very happy to see them continue their extremely healthy success.

Our next question is from the line of Vernon Plack with BB&T Capital Markets.

Thanks. Jessica, could you -- you talked in terms of the yield but could you tell me what impact fee and acceleration on early payoffs and onetime events had on NII for the quarter?

Yes, I believe that NII, excluding the onetime impact for the 14% and including what’s 15.6% for the fourth quarter. So, there you go about 1.6% was due to early payoffs and onetime events.

Is that in terms of yield did you say?

Yes. The effective yield.

Okay. What about -- and I can do the calculation was that a penny or 2?

That is correct.

Okay. I want to make sure that I heard you in terms of the amount of SBA debentures you were refinanced?

$24.3 million.

I’ll try to -- if you look at the $24 million I know that at least the debentures that were issued back in ’07 and ’08 if you look at the total it’s more like $84 million. And I am just trying to understand why the number 24 versus the amount that you had out which is around 84.

Well, we have to repay the debentures with funds available in the subsidiary

Okay.

So that was one I would say cap on the amount of debentures that we could refinance. Just a reminder of what we did, this amount of refinance also in the beginning of 2011. And also we’re working with the SBA to make sure that we’re -- most SBICs don’t do repayments, they only want to make sure that we’re in compliance with the program. So that sort of drives the amount as well.

A further point, parties of the SBA is very, very strong. And to their request we adhere to their $25 million bite [ph] size Vernon. It does not mean that we won’t do another $25 million in fiscal 2012. So don’t extrapolate that. It just happens to be that it falls in each January and February timeframe.

Got it. Okay. Could you tell me what gain you actually realized in your warrant position on the Cempra IPO.

In the Cempra IPO it’s all unrealized and at this point it’s flat to slightly down.

Okay, all right. Okay.

One more point, on the SBA refinancing, the SBA alone will have a $0.01 negative drag on Q1 numbers right now as they exist, simply attributing to the one-time event coupled with the capital raised of Q1 when you actually factor that in, now we would add another $0.01 or so in dilution from an EPS point of view.

Our next question is from the line of Calvin Hotrum with Sterne Agee.

I am standing in for Henry Coffey. I think most of my questions are answered. But just trying to get a general read on I guess the environment for aggregating some of your portfolio investments. I mean it looks like currently things are looking a little better. Basically just trying to get an idea of if the more favorable environment is going to act like a catalyst for you guys aggregating and maybe entering into some new investments.

So, there is no question that we are probably the most encouraged we’ve been in the last 6 years since starting this business. We had 45 or so IPOs complete in 2010. We had 45, 46 in 2011. We’re very encouraged, but we can't ignore the IPO market in 2012 without talking about the big elephant in the room and that’s Facebook. The whole world is looking for Facebook as a kind of a confirmation or affirmation if the markets are there. Truly Zenga raising $1 billion absolutely helped validate that the market can and is willing to absorb a capital raise of that size and the continued success of LinkedIn post IPO has been quite tremendous and quite strong. So that all serves to give confidence in the investor community that technology companies are in fact a good place to allocate capital to. The biggest challenge right now that we have as an industry is why it’s said that the prior venture stage companies are so well valued that the new norm is a $1 billion clearing price. I think it’s a little lofty. I would like to see this going out in the $300 million to $700 million range as opposed to everyone to be a $1 billion company. But so be it, everyone has aspirations of being a $1 billion company and that’s causing some of the investors to kind of step back and take a pause saying, okay, I see the growth story, I see you have a good business model, but $1 billion dollars is a little bit lofty for me to get my arms around. I think Facebook will help drive that confirmation of validity in the social networking and other companies that are out there. But we are very encouraged by that. We’re encouraged by our own companies that we have and having a 109 different warrant positions and over 37 different equity positions we are probably the biggest cheerleaders out there seeing an IPO market come back to solid shape.

This concludes the Q&A portion of today’s conference. At this time I’d like to turn the call back over to Manuel Henriquez, Co-founder, Chairman, and Chief Executive Officer of Hercules for closing comments.

Thank you, Carolina, and thank you, everyone for continued interest and support of Hercules Technology Growth Capital. If you want to arrange for a meeting or have any questions please feel free to contact our investor relations group. Jessica and I will be on the East Coast and participating on Sandler O'Neil and the Citibank conferences next week in New York City and in San Francisco. If you would like to have a meeting with us please let us know and if we have time we will certainly schedule a meeting with our shareholders. Again, thank you very much for being our shareholders and for being part of Hercules Technology Growth Capital story. Thank you and have a good evening.

Ladies and gentlemen thank you for participation in the Hercules Technology Growth Capital fourth quarter 2011 conference call. This does conclude the program. You may now disconnect. Thank you and have a wonderful day.