Megan Bacon - IR Rob Pomeroy - Chairman & CEO Jerry Michaud - President Dan Trolio - VP, Finance & Interim CFO.

Leslie Vandegrift - Raymond James Ryan Lynch - KBW Christopher Testa - National Securities Jonathan Bock - Wells Fargo Securities Casey Alexander - Compass Point Research.

Good morning, and welcome to Horizon Technology Finance's Third Quarter 2016 Conference Call. Today's call is being recorded. All lines have been placed on mute. We will conduct a question-and-answer session after the opening remarks. Instructions will follow at that time.

I would now like to turn the call over to Megan Bacon of Horizon for introductions and the reading of the Safe Harbor statement. Please go ahead..

Thank you. Welcome to the Horizon Technology Finance third quarter 2016 conference call. Representing the company today are Rob Pomeroy, Chairman and Chief Executive Officer; Jerry Michaud, President, and Dan Trolio, Vice President of Finance and Interim Chief Financial Officer.

Before we begin, I would like to point out that the Q3 earnings press release and Form 10-Q are available on the company's website at horizontechfinance.com. Now, I will read the following Safe Harbor statement.

During this conference call, Horizon Technology Finance will make certain forward-looking statements including statements with regard to the future performance of the company. Words such as believes, expects, anticipates, intends, or similar expressions are used to identify forward-looking statements.

These forward-looking statements are subject to the inherent uncertainties in predicting future results and conditions. Certain factors could cause actual results to differ on a material basis from those projected in these forward-looking statements.

And some of these factors are detailed in the Risk Factor discussion in the Company's filings with the Securities and Exchange Commission, including the Company's Form 10-K for the year ended December 31, 2015.

The Company undertakes no obligation to update or revise any forward-looking statements whether as a result of new information, future events, or otherwise. At this time, I would like to turn the call over to Rob Pomeroy..

Good morning and thank you all for joining us. I would like to begin our call today by welcoming Dan Trolio. Many of you know Dan who has been with Horizon for over 10 years and we're delighted to have him assume the role of Interim CFO after serving us so well as Controller. Dan will be providing details on our financial performance later in the call.

During the third quarter, we continue to execute our venture lending strategy, making new investments, and realizing positive liquidity events from our maturing investment portfolio. We also experienced credit challenges related to three of our portfolio accounts in the third quarter. I would like to begin by discussing our new investment activity.

In the quarter, we funded two new loans totaling $13 million and increased our committed backlog to $19 million. The third quarter is traditionally a slower quarter for new investment.

In addition, while we are experiencing strong demand for our venture debt products, many of the potential loan opportunities are from relatively slow growth companies that are already highly leveraged with soft support from their equity sponsors.

As a result, we remain cautious in evaluating these opportunities which further slowed our investment activity during the quarter. In the third quarter, we realized positive liquidity events including prepayments and M&A activity from our diverse and seasoned loan portfolio. This enabled us to generate a strong portfolio yield of 14.2%.

I would now like to discuss the impact that our debt investments in three specific portfolio companies had on our NAV. We have recorded unrealized depreciation of $11 million on these investments which contributed to an NAV of $12.44 per share at the end of the quarter.

To be clear, while we are valuing these investments based on their current status and the status of the related portfolio companies, none of these investments have been settled. We continue to work to maximize the value of these investments and their underlying collateral.

The primary contributors to the change in our NAV during the quarter were our investments in ScoreBig, where we recorded unrealized depreciation of approximately $5.3 million and New Haven Pharmaceuticals where we recorded unrealized depreciation of approximately $4.8 million.

The unexpected adjustment for ScoreBig resulted when in September a brand-name strategic investor declined to close on an expected equity investment, which should have funded the company until it reached profitability.

The loss of this strategic investor made the inside investors unwilling or unable to provide sufficient financing to keep the company operating in the short-term. Subsequent to quarter end, ScoreBig entered into an assignment for the benefit of creditors and engaged an investment back to find a strategic buyer for the company.

Since this process has just begun, and the outcome is uncertain, we prudently have marked down the fair value of the asset. In the case of New Haven Pharmaceuticals, in the third quarter, we recorded unrealized depreciation on our investment which we had downgraded to a two rated credit and placed on non-accrual during the second quarter.

We are presently working with the company's investors and management to find a strategic partner for the company's primary asset and FDA approved product for the secondary prevention of stroke and acute cardiac events. Company has hired an investment bank to help with this process.

At June 30, the company had received an LOI from a pharmaceutical company to acquire their lead product with an upfront payment that greatly exceeded the amount of our loan. As a result, we carry the loan at par at the end of the second quarter. During August, the potential acquirer revised its offer to include lower upfront payments.

As of today, there are multiple interested parties looking at acquiring the lead product. Like ScoreBig, New Haven is not a settled account and we've marked down the value of the assets to reflect the uncertainty of the outcome.

Lastly, we also recorded unrealized depreciation of $1 million on our investment in NextEra, a public company, and we're working closely with its management to resolve our investment. I want to stress that we've marked down our investments in these three portfolio companies to reflect the uncertainty of their ultimate disposition.

We expect to resolve these accounts over the next several quarters. Our main goal as always is to maximize the ultimate value of these assets for our shareholders. We are working closely with each of these companies and are committed to achieving the best possible outcome in each case.

We will provide an update on our progress during our next conference call. Credit quality remains an utmost priority for us and we continually review our portfolio and underwriting criteria. Following the review of our recent downward fair value adjustments, we found that there was no commonality with these investments.

One portfolio company was originally underwritten in 2011, one was underwritten at 2013, and another in 2015. These companies are in different market sectors and in each case; the stress on the company was company specific. As a result, we believe that there are no systemic issues within our portfolio or in our underwriting process.

We do believe as Jerry will discuss shortly that the soft M&A market and soft expansion stage investing markets are making it more difficult for these companies to attract capital or buyers when they run into operational or other issues.

Recognizing the current market environment, we are taking additional steps to ensure that our underwriting standards remain strict and appropriate.

With respect to the overall portfolio, as of September 30, our loan portfolio had a weighted average internal credit rating of 2.9 and over 84% of our portfolio was performing as well or better than our expectations at the time of underwriting. Now I will briefly summarize our overall investment activity and NII results for the third quarter.

Liquidity events continue to provide us with a steady income stream. During the quarter, we experienced positive liquidity events from three portfolio companies including $17 million in loan principal prepayments plus interest, end of term payments, prepayment, and success fees.

Given the three fair value adjustments I spoke of earlier, the incentive fee on pre-incentive fee net investment income was subject to the incentive fee cap and deferral mechanism under the company's investment management agreement which resulted in reduced expense of $900,000.

To provide some history here, the incentive fee cap and deferral mechanism was first introduced in June 2014 when we amended our investment management agreement. We believe this and other changes we implemented at that time such as the permanent removal of management fees on cash provides significant and meaningful benefits to our shareholders.

These changes have also better aligned the interest between our external advisor and shareholders which is best reflected in the implementation of the deferral mechanism during the third quarter. The positive liquidity events we experienced during the quarter, coupled with this reduced expense, enabled us to generate NII of $0.38 per share.

With respect to our quarterly distribution, in October, we declared distributions of $0.10 per share payable on each of January, February, and March 2017. After careful consideration both management and the board determined that it was appropriate to lower our distributions in light of the size of our portfolio.

We continue to maintain undistributed spillover income of $0.22 per share. Since we went public in October 2010, we have now declared $87 million or $9.02 per share in cumulative distributions. Horizon remains focused on creating long-term value for our shareholders.

We are committed to maintaining the stream of cash distributions to our shareholders that are covered by our net investment income over time and delivering further upside potential from our maturing warrant portfolio. As we look to grow our investment portfolio, we have ample liquidity to selectively originate attractive investments.

Recognizing today's market environment, our underwriting criteria will continue to reflect our disciplined investment approach to sourcing loans that we believe will provide suitable risk adjusted returns.

Since our inception, we have focused on being a pure play venture lender to technology and life science companies that create game changing technologies and we believe we are well-positioned to continue capitalizing on the strengths of this specialized venture lending investment strategy.

We believe we have a unique opportunity over the coming quarters to take advantage of dislocation in our marketplace and to exploit opportunities in the life science and healthcare technology markets.

To capitalize on these market opportunities, the advisor will be investing in the business by adding additional investment professionals in both marketing and portfolio management to complement our experienced core team. Our focus will remain on originating high-quality loans with onboarding yields that are among the highest in the BDC industry.

Jerry will now update you on our business development efforts and market conditions. Dan will then detail our operating results and financial conditions.

Jerry?.

Thanks, Rob. Good morning everyone. During the third quarter, we originated two new loans totaling $13 million to two new portfolio companies. They achieved strong onboarding yields of over 12% for the third quarter consistent with previous quarters. We continue to see market conditions similar to what we saw in the second quarter.

From a competitive standpoint, we are seeing the market accept a greater amount of leverage in development stage companies. The greater leverage amounts are not consistent with Horizon strategy of originating low loan to value transactions.

So while demand remained relatively strong for our debt products in the third quarter, our origination activity reflected our commitment to maintaining a disciplined investment approach in the face of new deal flow that offered few of what we would consider to be quality investment opportunities.

To reinforce what Rob said earlier, we are committed to long-term portfolio growth, but we will not sacrifice our underwriting standards to achieve it. Entering the fourth quarter of this year, we saw an increase in our committed backlog. As of September 30, Horizon's unfunded loan approvals and commitments totaled $19.5 million to three companies.

This compares to a committed backlog of $3 million to one company as of June 30. Our pipeline of new opportunities at September 30 was approximately $120 million.

Based on the demand, we are seeing substantial liquidity we have built up during the course of 2016, and expected normal amortization and prepayment activity, we expect the size of our portfolio to remain flat or grow slightly in the fourth quarter.

Going into 2017, we will look to further expand our pipeline as our advisor adds additional marketing bench strength. We continue to selectively pursue new loan investment opportunities that meet our underwriting standards in those market sectors which we believe will be favorable.

At the end of the third quarter, we held warrant and equity positions in 87 portfolio companies. We experienced liquidity events from three portfolio companies during the third quarter, which included prepayments of $17 million compared to $7.5 million in the second quarter.

Of note was the successful acquisition of mBlox by CLX Communications which resulted in mBlox prepaying $8.6 million of outstanding principal plus fees. To be more specific, Horizon loaned mBlox $11.5 million over a two-year period.

In addition to all of the principal returned we received an additional $5.2 million which included interest and end of term payments and a success fee resulting in IRR of 22%. Turning now to the general venture capital environment, according to PwC's MoneyTree report, VC investment for the third quarter was $10.6 billion.

While this was lower than the $15.6 billion invested in the second quarter, VC investment remained at a relatively strong level. However in terms of the number of deals it is the fifth consecutive quarterly decline. In Q2 of 2015, there were 1,234 companies funded versus 891 companies that were funded during the third quarter of this year.

In other words, we continue to see VC's remaining invested in private companies longer and doing fewer deals with larger equity grants. Perhaps the most compelling statistic as it relates to Horizon's market focus is the 63% third quarter decline in expansion stage funding for growth stage companies according to PwC's MoneyTree report.

From what we have observed, this decline is a direct result of a lack of material expansion or revenue growth by these types of companies in 2015 and 2016. VC fundraising was $9 billion in the third quarter according to PitchBook was down from $13 billion in Q2 which represented the highest quarter for fundraising since 2008.

2016 continues to be one of the best VC fundraising years in recent times and still on pace to exceed the $36 billion raised in 2015. We have begun to see an increase in technology IPO filings, 11 technology IPOs were completed in the third quarter which was the highest since the second quarter of 2015 according to PwC.

With a number of new technology IPO filings already in the fourth quarter we're starting to see indications of a more robust IPO market. This is very encouraging and we will continue to watch how this trend develops. A stronger tech IPO market is typically a leading indicator of an improved M&A market for tech companies.

As it relates to M&A activity, PwC reports that the first three quarters of 2016 have reflected a significantly lower pace of activity than 2015 with the overall number of M&A transactions down 10% and M&A values down over 36%.

Despite this, we are beginning to see a silver lining in technology M&A activity given the recent number of Megatech M&A transactions that have been announced in the second half of 2016 including Dell's announced acquisition of EMC, AT&T's announced merger with Time Warner, and just this week the announcement that Level 3 Communications will be acquired by CenturyLink.

These types of mega mergers are another leading indicator that tech M&A activity could pickup as we go into Q4 and 2017.

Specifically, we believe the combination of more tech IPOs and IPO filings by technology-related companies, combined with recently improving M&A activity in the tech sector, could lead to a more robust exit market for tech related companies over the coming quarters.

Activity within the life science IPO market remained steady with 30% of the 40 IPOs completed in Q3 being healthcare related according to PwC.

We're also seeing life science and healthcare IT companies accelerating their growth plans related to drug development and rolling out new disruptive technologies and address significant inefficiencies in healthcare delivery and administration.

We are continuing to see some interesting opportunities on the healthcare technology side and still view this as an attractive market for us.

Most of the opportunities, we've seen aimed at addressing cost-containment and inefficiencies in the healthcare industry, we expect over the next few years this will be a strong market in terms of both equity and debt. Our approach to what has historically been called the Cleantech market remains cautionary.

We've seen the dynamics of that market change considerably over the past few quarters with increasing focus on technologies to support healthy living. Venture capital investing in this area continues to remain fairly muted.

Looking at the competitive landscape in the venture debt market, technology banks have continued to aggressively compete to provide short-term working capital to growth stage technology companies.

On the life science side, we continue to see a pullback from some competitors compared to the 2013-2015 timeframe with increased opportunities for multi-partner transactions and later-stage life science transactions. This should continue to drive rationale pricing and our ability to obtain attracting onboarding yields across our targeted markets.

With that update, I will now turn the call over to Daniel..

Thanks, Jerry and good morning everyone. I will now briefly discuss our financial results for the third quarter of 2016. Our total investment income for the third quarter was $7.6 million as compared to $8.4 million for the third quarter of 2015.

The decrease was primarily due to lower interest income on investments resulting from the smaller average size of our loan portfolio. Our portfolio yield for the third quarter was 14.2% consistent with last year's third quarter. Onboarding yields in our portfolio were 12.2% and that remained stable in the 12% to 13% range since our inception.

Total expenses were $3.3 million for the third quarter a 25% decrease as compared to $4.4 million in Q3 of 2015. Included in these expenses is interest expense, which decreased primarily due to a decrease in average borrowings.

As Rob mentioned earlier, due to the fair value adjustments, the incentive fee expense for the third quarter was subject to the incentive fee cap and deferral mechanism under our investment management agreement. This resulted in $900,000 of reduced expense and additional net investment income.

Including with expenses, base management fee remained flat year-over-year at $1.1 million and professional fees and G&A remained flat for the third quarter at $500,000.

We earned net investment income of $0.38 per share for the third quarter as compared to $0.35 per share for the third quarter of 2015 and $0.39 per share for the second quarter of 2016. After paying current distributions of $0.345 per share and earning $0.38 per share, we increase our undistributed spillover as of September 30 to $0.22 per share.

Our NAV as of September 30 was $12.44 per share an $0.83 per share decrease from the prior quarter. This decrease was primarily due to the unrealized depreciation on three debt investments which Rob discussed earlier.

The NAV impact of these fair value adjustments was partially offset by net investment income generated during the quarter and excess distributions declared. New originations for the quarter totaled $13 million which were offset by $10 million in scheduled principal payments and $17 million in principal prepayments.

We ended the third quarter with an investment portfolio of $208 million which consisted of secured loans to 47 companies with an average fair value of $201 million and a portfolio of warrant and equity positions in 87 companies with an aggregate fair value of $6.6 million.

In terms of liquidity, Horizon ended the third quarter with $37 million available in liquidity including cash and funds available under our credit facility.

As of September 30, we had $63 million outstanding under our credit facility which was expanded to $95 million this April and contains an accordion feature which allows for an increase in size of up to $150 million.

In addition to our credit facility, we continue to have $33 million in publicly traded bonds baby bonds, which we expect will be held until maturity in 2019. As discussed on our last conference call in June, we refinanced the remaining balance on our asset backed notes.

It remains our intention to increase debt levels and grow our leverage ratio towards our target of 0.75 to 1. At September 30, our actual leverage ratio was 0.67 to 1.

Taking into consideration the current gap between our target and actual leverage ratio, we expect that we can grow our current investment portfolio by $36 million or approximately 17% based on our current NAV and utilization of our current available committed credit facility. Lastly, I would like to provide an update on our stock repurchase plan.

Since approving the share repurchase plan in September 2015, we have repurchased over 114,000 shares. As previously announced, in July, our board of directors extended the share repurchase program until earlier of June 30, 2017, or the repurchase of $5 million of the company's common stock.

Before we open the floor for questions, I would like to note that we plan to hold our next conference call to report fourth quarter and year-end results during the week of March 6. This concludes our opening remarks. We will be happy to take questions you may have at this time..

Thank you. [Operator Instructions]. And our first question comes from the line of Leslie Vandegrift from Raymond James. Your line is now open..

Just a clarification question on KnowMe, I know it was marked down last quarter as non-accrual and it's a newer investments there but it's down from 27% fair value market cost to 6% this quarter and I was curious, if you can give bit more detail on those asset sales, I know you mentioned a bit of it earlier but just kind of what's going on there and outlook for that?.

Sure. As you know we marked KnowMe down to $1.7 million at the end of Q2. That was based on the fair value of the assets. And we collected $1.4 million of cash based on the liquidation of the current asset. So that's why you see the fair value down to $300,000.

Subsequent to the quarter, we collected close to another $300,000 and the transaction is coming close to completion and should be realized in the fourth quarter..

Got it.

And then on just in general for the issues you talked about ScoreBig and New Haven et cetera, you had it seems that although there doesn't seem to be specific commonalities, they in general have had issues with as product sales or the strategic buyers, are you seeing the lack of demand on that end in the market pretty distressed issues with either selling parts of the business or just also having someone come in and buy the company?.

Yes, hi, this is Jerry Michaud. Yes, that's exactly what we've seen in 2016 is I would say, it's a combination of companies that have significant leverage, where the investors have probably at the end of their funds and there is the M&A market is extremely weak even for quality companies.

So companies that are experienced in some operational stress or they just can't see their way to an exit, when they have, that they look to, VCs look at their own portfolios, even the good companies in their portfolios have not seen the kind of multiples that they would need to get.

And so when you take in combination the amount of equity that's in, the amount of debt that company has, and a lack of material buyers out in the marketplace, that has definitely impacted the market considerably.

And we recognize that and that's one of the reasons I think our overall funding volume for the year has been down as we're not aggressively looking at when a company can exit and making the assumption that that'll happen in the market be their form right now because it just hasn't been.

As I mentioned earlier, we are seeing some improved activity on the tech side but not enough yet for us to be any more aggressive than we have been..

Okay.

When you're talking about the tech site, you talked about the mega mergers and the increased M&A, we're starting to see that on the large side but not so much in small areas of market [indiscernible] are you seeing that as something that you could get access to in the next quarter or so and with the higher repayments and prepayments this quarter is that going to continue because of that or has that just been a few one-off quarters really been higher than expected?.

Well I don't expect to be any material change in the fourth quarter relative to that although what generally happens is once some of these bigger deals start getting done, buyers that have been sitting on the sidelines essentially letting the smaller companies take all the risk of product development or increasing market share begin to start thinking that if they don't act, that they may lose an opportunity.

And so I think we'll hopefully we will start seeing some in the fourth quarter and then into next year is some of the higher-quality companies we have in our portfolio become far more attractive, some of the three and four rated credits become far more attractive.

As I'm sitting here today, I'm not ready to put a stamp on that say it's definitely going to happen but we do like some of the activity we've seen both on the IPO side and the M&A side just very recently, so that does give us some optimism going into the next couple of quarters.

And as a result, I don't expect prepayment activity in the fourth quarter to be -- I don't actually expect it would be even a size as what we experienced in the third quarter..

Okay, all right. Well perfect, thank you for answering my questions..

Thank you, Leslie..

Our next question comes from the line of Ryan Lynch with KBW. Your line is now open..

Hey good morning guys and thanks for taking my questions. Just first one, I know you kind of mentioned that there wasn't a lot of commonalities in the credit issues you guys have experienced but clearly there has been a big uptick in credit issues over the past year.

So have you all done any sort of internal review on the origination, underwriting, or monitoring process and are you guys looking to make any change to any of those processes?.

Anytime you experience this kind of activity, you always are very introspective and we have been, we always are Ryan, we appreciate the question.

I think the commonality that we did see is the distress that Jerry just described in terms of the M&A for distressed companies but when we looked hard at our underwriting criteria in the markets that we're looking at and the opportunities, I think the adjustments we're making are at the bottom of the funnel as Jerry described in terms of being very selective on the amount of leverage and the investor support that's in the companies that we look to make new loans to and as it relates to our existing portfolio, we obviously are paying as closer attention as we can to the timing and need for cash and the milestones necessary to do that so that the companies and we are thinking about plan A, B and C..

Okay. And then kind of just for the outlook for portfolio growth, I mean you guys have a decent amount of cash on the balance sheet as well as some additional leverage, I think you guys mentioned about $35 million of capital to deploy. But throughout the year, we've actually seen net portfolio repayments in every quarter Q1 through Q3 so far.

So what is your outlook going forward on actually growing this portfolio, you guys fine with running at this level or do we expect to see some meaningful portfolio growth over the coming quarters?.

Hi, Ryan, this is Jerry. We are being very focused and forward-looking on where we believe the markets are going based on what we know today over the next two or three years.

As Rob had mentioned we actually are going to be adding some marketing bench strength to the company but it isn't just about putting three or four more people or five more people on the street, it's about being very focused on certain sub market sectors and finding the right people with the backgrounds in those sectors.

And so we are -- we have a strategy for certainly for 2017, we expect to lay the groundwork for that and in the fourth quarter of this year.

So obviously our goal is to obviously increase the portfolio during 2017 using the liquidity we have but also making sure that we're doing it in the markets that we believe are going to add the most value for our shareholders over time.

So that's we are very focused on that that kind of narrow outlook of where we think the strongest places in our market are going to be over the next two or three years and addressing those markets specifically and that's the plan. And we do believe, we can grow the portfolio doing that and obviously improve the quality..

Would you say that the negative net portfolio growth year-to-date in 2016 is more a factor of market dynamics may be not seeing the right deals or seeing some frocking in some deals in the market, you guys just don't want to originate or are you guys limited by know the number of investment professionals that you guys have in your organization meaning that if you guys would have a couple more investment professionals you guys would've expected to do higher number of originations, what was really the driver was it really a combination of those two or any other factors?.

Well it was definitely, I would say on balance it was the first versus the latter. We have seen a lot of opportunities for refinancing of debt coming our way, where growth just hasn't really been there. There is always a story behind it. The growth is going to come next quarter or the quarter after that or the year after that.

Investors have been in these companies for a very long time, many of them -- many of the investors need to exit because they're at the end of their fund.

In fact one of the things I know people just told me about two days ago was they're extending many, many venture capital funds beyond the 10-year fund maturity because VC's can't exit a number of their portfolio companies in the funds. And so they are extending the terms.

And so we're looking at these transactions where that's what we meant, we said investor support is soft, it's because they're looking to exit these companies, there isn't a strong exit market, the companies have probably more leverage than they should based on their actual performance opposed to their projections, when they got the debt.

And so we're looking at a lot of those opportunities but we're just not getting to a level of any type of comfort with them and so that has been the absolute driver.

I would also say that I think adding specific marketing bench strength in certain areas will allow us to access probably better access some markets that we think are going to be very strong in the coming quarters that we -- that we don't have access to today as well as we would certainly like..

Okay. And then just one more -- more technical question, when I run my model for the fourth quarter assuming that portfolio, there is no appreciation or depreciation of the portfolio. So that just remains flat. I'm looking at an incentive or reduced incentive fee due to the total return of around $400,000.

Do you guys expect -- does that sound right and do you guys expect to have a reduced incentive fee in the fourth quarter assuming that the portfolio, there's no realized gains or losses in the portfolio?.

We expect the impact to continue into the fourth quarter and you're in the ballpark, Ryan..

And our next question comes from the line of Christopher Testa with National Securities. Your line is now open..

Hi good morning. Thanks for taking my questions.

Just kind of going off of Ryan's first question on the personnel and internal reviews, just wondering if you could remind us on the structure of your personnel and how many people you have in origination and underwriting and how that's busied up by sector and whether or not you think that there is any need to make changes there?.

Yes, so we are total about 16 professionals and staff, Chris and we operate out of our main office in Farmington in Connecticut. We have three people dedicated to the origination of loans right now and we have three people that do primarily portfolio and manage -- portfolio management and underwriting.

And they work very cooperatively and collaboratively together. As we did say, we will the advisor is looking to add professionals in both origination and portfolio management and in underwriting going forward.

And as Jerry has alluded what we want to do is to be sure that we're focused on the target markets, we think will be the best places for us to invest over the next couple of years..

Great.

And just what things that I guess potentially the advisor could do well obviously, you guys have had some issues this year with the asset quality, is there any inclination on behalf of the advisor to potentially commit to making either open market purchases or for you guys to revise and amend the management agreements potentially reduce base fee?.

Well so the answer to your first part of your question is no. We've always been a direct origination company working directly with the investors and the management teams of our portfolio companies that that's very core of our operating style. So I would not at all expect us to do open market.

In terms of our management agreement, we did amend it two years ago and right now we're continuing it as expected..

Right.

I think on the first part of the question you might have missed certainly, Rob, I was just asking if the advisor would potentially commit to purchasing your stock in the open market kind of to augment these surface programs?.

What we will continue to do is the stock repurchase plan..

Okay. And do you think that that's even if you end up let's say 25% discount to NAV, do you think that the repurchases are moving the needle and if I know that obviously you are restricted somewhat because the volume of the stock isn't too robust.

Do you feel that's making a difference or should we expect you more to focus on just using that money towards originations?.

It's a balance and we look at it every time we decide to make a purchase we think at a 25% discount that that's an attractive opportunity for us to repurchase some of the shares but we don't want to do it in a way that would not allow us to work our way back to our full leverage.

So it's a balance either we will always keep when we make decision to either repurchase shares in that..

And your estimates for the portfolio growth that you guys had described, how is that I guess what is that factoring in, in terms of repayments because obviously you guys have cited that there is some choppiness in the market and there is somebody willing to finance these borrowers at high leverage multiples.

So I guess would it be reasonable to expect that that could drive you know prepayments higher than, than you would otherwise expect if that continues?.

Yes, so we've been averaging about $10 million worth of normal amortization every quarter. And if you look back over several years, we've averaged about the same amount of prepayments per quarter. The prepayments don't line up quite as evenly as normal amortization. But that's really a normal activity for us.

There are three liquidity events we had in the second quarter, one of them was in M&A and two of them were refinancings, one by debt and one by equity.

So that's a fairly typical quarter but we don't really have a great outlook to when and those will happen except that we are reasonably confident that that level prepays off of the $200 million to $240 million portfolio will continue because it's a normal part of the venture lending model..

Got it.

And last one from me just on the dividend reduction, how much of that came I guess more unexpected from non-accruals obviously weighing on the overall yield of the portfolio and how much of that came from just spread compression giving the choppiness that's going on in the market?.

Well, as I said, in my prepared remarks that we gave careful consideration to this. We have covered our dividend for five quarters admittedly part of it this quarter was through the incentive fee.

But we believe that the level of our current portfolio suggests that this is a dividend that we can cover over time which has been our policy from the beginning. And it has so as much more to do with the size of the portfolio than earnings compression or yield compression..

Our next question comes from Jonathan Bock with Wells Fargo Securities. Your line is now open..

Good morning and thank you for taking my questions. Rob may be the dovetail off the comment about the dividend.

So as we look at kind of the math in light of the new dividend level, can you tell us what you would need to originate at today in order including losses in order to effectively cover that dividend yield over time right? What is the yield or investment target bogey from a return perspective from here on out?.

So it's our judgment that going forward, if we can continue to attract new investments at the onboarding yields consistent with where we've been before the 12% to 12.5% range and we can grow the portfolio over the next two or three quarters to back to the 0.75 to 1 debt-to-equity with a normal conservative level of prepayments and amortizations that we can cover that dividend over time..

Okay..

So that's why we said where we're selling..

Okay, that's very helpful. And so on the question I mean in terms of talking about commonalities in terms of credit losses and this is just for us reading the transcripts, the common theme what we found with KnowMe or New Haven or now let me comment on ScoreBig is that you didn't really expect a major loss.

In fact I think last quarter you mentioned that you expected no principal loss at New Haven as we kind of pulled the transcript.

So our views is -- our views are kind of going forward with 90% of your portfolio marked at par and such a substantial potential drop in the value of some investments, it leads to questions as to whether or not we have a pure handle on absolute credit quality in the portfolio and that brings us to a question on ScoreBig.

Right so there is some amount of value left but we found that the company recently experienced liquidity crisis to shutdown their site there's also reports that the company reduce its staff and seeing some operations issues, is this really caused by the lack of equity investments and really when you think of an investment like that, how do you pullout of that tailspin and why would there still be some amount of value left, when it seems to us there's not much of a chance..

Well may be so what I would say is that we fair value these transactions at the point in time, when we report our earnings. We do the very best we can in terms of what our expectations are for the future realization on the value of these assets.

As I think we said in the transcript, this quarter, we are working with several buyers to realize on these assets, the things you described which you may have gotten from Google searches or represent some of the stress in the company.

But I'm trying to emphasize what I said in our speech is that, we're trying to maximize the ultimate return on these assets same is true for New Haven.

By working with the management, working with the company, working with the underlying business and assets to produce over time the best total cash return from these assets and that's where we are on both of these at this point, Jon..

And to be clear losses across the space over time, it's inevitable, it's a part of business and so not to over emphasize it a bit but now may be taking and I appreciate your honesty there, Rob. We understand you; you’re working hard to try to realize value.

The next question gets to the lack of incentive fee which is certainly a positive, we respect that alignment but now it brings to about a question of platform. Over time you have to compensate your investment talent to both stay and prevent slight and attract new talent.

So can you explain to us how you're going to be able to provide effective compensation certainly relative to competitors, who are obviously writing bigger tickets and attracting talent? How you're able to do that as your fee income to the manager and platform continues to fall as a result of losses?.

Well, it certainly reduces the cash flow to the advisor. There is no doubt but that was part of what we were willing to do, to align our interest with the shareholders.

Having said that, it's on owner -- owners of the advisor to attract new talent and convince them that over time this would be a great place to work and a great career for them and it's a good story..

Okay. And then, as we think about the ability to kind of grow leverage et cetera right there, there are couple ways to grow leverage through making new investments also through repurchasing shares.

And I'm wondering just in light of the volatility we've seen over the stock as a result of the cut if you be willing to give one a preference over the other at this time given the fact you're trying to move up into that leverage range of 0.75 times from the current level..

Yes, I think I answered that for Chris Testa from National, but I will answer it again. We are willing to look at both of these. We have the repurchase agreement in place. At certain prices our stock will be attractive for us to buy. But I think we want to balance that with the ability to try to grow our company, our portfolio back up towards the 0.75.

So I think we will be doing both over the coming quarters..

And then just one last final point thank you for that, sorry for the repeat but one last final point on the EOT's, was there a level of EOT accrual reversals and just I'm curious what names that involve?.

Yes, Jon there was a small level of reversal in the third quarter for more on the investments that were on non-accrual. We're not going to get too specific on the company but nothing of substantial amount and nothing that should impact going forward..

And our next question comes from the line of Casey Alexander with Compass Point Research. Your line is now open..

Hi, good morning. I just most of my questions have been answered. I just have a couple, your assets looking at the schedule of investment since that they float against LIBOR.

Against what LIBOR do they float against and can you share with me what in general, the floor is?.

Sure. Casey, this is Dan. The LIBOR floats against the -- the rates float against the one-month LIBOR and the majority of the loans have a 50 basis points floor..

So a number of those have just recently moved kind of sort of into the money then?.

Correct..

Okay. Secondly, you came you started the year with seven credits in bucket two and none in bucket one and now we come out in this quarter with 12 and there has been a substantial increase in bucket two that we haven't discussed which suggests that there are several other credits that have shown credit deterioration just in this quarter.

So can we get some color on the -- we're talking about almost 16% of the entire portfolio is under some level of credit stress.

Can we get some sort of color as to that $20 million that's in bucket two and why we shouldn't be just as concerned given the past history of what's happened with credits that have gone into bucket two?.

Well, I'd be glad to give you as much color as I can, Casey just to back up a little bit. When we have a credit in credit two, it's our assessment at the time that we rated it credit two that although under great deal of stress, we do not expected it at that time to realize a loss.

And if you look at the history of our migration of loans into and out of that category, great majority of them ultimately end up repaying us or migrating back. Although there are those do down get downgraded to ones, which we -- which I'm certain you followed very closely.

I think it would be fair to say that we are being critical of our accounts as we move some of these to the two category given the environment, we found ourselves in this year and the level of distressed M&A activity and the results from that.

So I think we're being cautious about the company's ability to raise additional capital and have tried to appropriately show the caution by moving them into the two categories..

Okay. And my last question is based upon the portfolio value, the amount of loans that are not accruing income and again doing the math and aware of the fact that you've already declared the fourth quarter dividends at the old dividend rate.

It would be reasonable to assume all other things being equal that there is likely to be some NAV drag as a result of the size of the previous dividend in the fourth quarter wouldn't it?.

I think that's fair..

Thank you. There are no further questions. I'd now like to turn the call back over to Robert Pomeroy, Chairman and CEO for closing comments..

I want to start by thanking everyone for their questions and as always for following Horizon story. As we enter the fourth quarter, we will continue to deploy our capital selectively as we always have and we will maintain our strict underwriting standards as we work to rebuild the portfolio and our net asset value.

We'll continue to do use our venture lending model to invest in dynamic technology companies that can produce long-term value for our shareholders through equity and success for your upside as well. So we look forward to sharing with our progress with you again in March. This concludes our conference call and thank you and have a great day..